International Air Transport Association

Emissions trading for aviation

Workstream 3: Key findings and conclusions

Arthur Andersen, 2001.

Contents

EXECUTIVE SUMMARY 1 2 3 4 5 DRIVERS FOR A POTENTIAL AVIATION EMISSIONS COMMITMENT ............................................... 1 EMISSIONS TRADING AS A TOOL TO MEET AVIATION EMISSIONS COMMITMENTS .................. 9 DESIGNING AN EMISSIONS TRADING SCHEME SUITABLE FOR AVIATION.................................. 12 KEY POLICY FINDINGS .............................................................................................................................. 18 ASSESSMENT OF OPTIONS FOR SCHEME DESIGNS BY DESIGN ELEMENT................................ 26

APPENDIX 1: ANALYSING EMISSIONS TRADING SCHEMES ..................................................................... 3 9 APPENDIX 2: SELECTED BIBLIOGRAPHY ..................................................................................................... 4 3

Disclaimer: This Report has been prepared under a contractual agreement with the International Air Transport Association. It has been written as a contribution to the ongoing industry discussions and to prompt debate concerning a potential international aviation emissions commitment. However, in the circumstances, no responsibility or liability for loss occasioned to any person acting on or refraining from action as a result of the material in this report can be accepted by Arthur Andersen. As a consequence, it is recommended that specific professional advice is sought before any action is taken.

Executive Summary

The International Air Transport Association (IATA) commissioned Arthur Andersen (Andersen) to undertake a study on the potential for greenhouse gas (GHG) emissions trading schemes involving the international air transport sector. This report summarises findings and conclusions from the first two phases of the project (Workstream 1: policy and stakeholder perspectives; and Workstream 2: economic analysis). The report is a discussion document that seeks to contribute to ongoing discussions and debate within the international aviation community of a potential international aviation emissions commitment. Designing an emissions trading scheme suitable for aviation The format of the project is detailed in chapter 3. It commenced with a review of literature relevant to aviation emissions commitments, complemented by an analysis of lessons learnt from selected emissions trading schemes and emissions trading theory (sections 3.2 and 3.4). These formed the basis of a background policy report. An expert panel comprised of senior industry or emissions trading figures - was also established to provide a critical review of key selected inputs and outputs (section 3.3). Stakeholder perspectives were conveyed at a stakeholder workshop in April 2001, and captured in a workshop report (section 3.5). Key issues were then subjected to economic analysis, which provided new analysis, taking into account existing economic studies (e.g. the International Civil Aviation Organisations Forecasting and Economic Support Group) and using existing economic models (AERO) (section 3.6). Drivers for a potential aviation emissions commitment This report starts by assessing the potential drivers for an international aviation emissions commitment (chapter 1). It outlines the goal and challenge of sustainable aviation, stressing the economic significance of the air transport industry and recognising that the predicted growth in air travel will be accompanied by an increase in fuel use, and thus also an increase in GHG emissions (section 1.1). The report identifies Article 2.2 of the Kyoto Protocol to the United Nations Framework Convention on Climate Change (UNFCCC) as the key regulatory driver for a limitation on GHG emissions from international aviation, and details UNFCCC efforts to allocate international aviation emissions to Parties. It briefly assesses the likelihood of the Kyoto Protocol entering into force which would activate the Article 2.2 commitment on aviation and suggests that, even if the Kyoto Protocol were to disappear, there would be strong pressure for a wider dominant agreement that would drive an aviation emissions commitment in a similar fashion to Kyoto (section 1.2). The role of the International Civil Aviation Organisation (ICAO) in determining the nature of any international aviation emissions commitment is discussed; there appears to be significant momentum within ICAO to respond to the mandate given to it by the UNFCCC through the Kyoto Protocol. The upcoming ICAO Assembly is expected to give a clearer indication of its intended role and status (section 1.3). Other potential drivers are also assessed (sections 1.4 1.6). The European Union may play a key role (section 1.4). Initiatives such as the European Climate Change Programme or the proposed European Community emissions trading scheme may impact aviation emissions in the medium term. In the shorter term, there is significant potential for the EU to take unilateral action to restrict international aviation emissions, while the implications for intra-EU aviation of the EUs Kyoto

Protocol burden-sharing agreement remain to be decided. The impact of national level drivers such as national climate change mitigation strategies are equally unclear, but are thought to currently pose little threat to the industry (section 1.5). The same applies to international drivers other than UNFCCC/ICAO, namely the guidelines for environmentally sustainable transport agreed by the Organisation for Economic Co-operation and Development (OECD), UN Commission on Sustainable Development (CSD), and the World Health Organisation (WHO) (section 1.6). Emissions trading as a tool to meet aviation emissions commitments Chapter 2 summarises the merits of emissions trading as a tool to meet aviation emissions commitments. It relates the limitations, as assessed by ICAO, of the main possible options for achieving such a commitment: technology and standards, operational measures, market-based options and voluntary initiatives (section 2.1). Noting the endorsement given in the ICAO Council draft assembly Resolution for the development of an open emissions trading system, the report then provides a brief primer for emissions trading (section 2.2). It then identifies emissions tradings three key benefits: enabling emission reductions to be made at the lowest cost; offering the potential to make emission reductions outside the industry; and allowing greater certainty over the achievement of environmental objectives (section 2.3). Key policy findings Chapter 4 identifies the key policy findings that resulted from the policy and stakeholder analysis in particular. It is suggested that these guiding principles are likely to provide the framework for the development of an industry position regarding any aviation emissions trading scheme. Eleven broad principles are identified, summarised below. The first three principles relate to the drivers outlined in chapter 1. The Kyoto Protocol is thought to currently be the only regulatory driver for an aviation emissions limitation; but if the Protocol were to collapse, UNFCCC - and perhaps other frameworks - would remain (section 4.1). It is considered that international aviation is very likely to be required to limit or reduce its greenhouse gas emissions, most probably from 2013, but possibly from 2008. To this end, it is suggested that th the industry will need to agree its position by the 34 ICAO Assembly in 2004, given that negotiations for the second commitment period (2013-2017) start in 2005 (section 4.2). Finally, the European Community is thought likely to provide a regulatory driver, but other international processes are less potent forces (section 4.3). Several key principles relate to the framework for any international aviation emissions commitment. It is suggested that retaining the international aviation emissions framework within ICAO may enhance industry influence, but risks jeopardising access to the Kyoto mechanisms (section 4.4). There are thought to be good reasons to grant the industry special consideration, but not all would justify lenient treatment, and they would risk the removal of access to Kyoto credits (section 4.5). It is considered that any commitment is likely to be on Governments (probably UNFCCC Parties, but possibly ICAO Member States), who then have the option to devolve this commitment to aviation entities (probably principally to airlines) (section 4.6). It is suggested that the industry needs to consider whether it prefers a stand-alone target or a target integrated into national assigned amounts. The latter case would be likely to result in a variety of implementation methods, and it is suggested that this would call for an overarching structure or guidance, perhaps through ICAO (section 4.7). Finally, it is recognised that it would be desirable from an equity and environmental perspective to have global participation in any aviation emissions commitment, but warned that such an outcome may be politically difficult to achieve (section 4.8).

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The final set of key principles relate to the nature of emissions trading as an aid for international aviation. Given the industrys high growth expectations, emissions trading is thought likely to be an appropriate tool to help meet emissions reduction commitments (section 4.9). An open emissions trading system is shown to be a no brainer, but it is noted that being open to trade with other sectors means accepting relevant trading rules (section 4.10). Finally, it is suggested that there are advantages in preparing for a mandatory commitment with a voluntary trading scheme (section 4.11). Assessment of options for design of an aviation emissions trading scheme by design element Emissions trading schemes can be deconstructed into individual design elements (see Appendix). Workstreams 1 (policy assessment) and 2 (economic analysis) provide the basis for the assessment in Chapter 5 of options for each design element in the international aviation context. The report discusses options for four primary design elements and nine secondary design elements. Primary design elements A key question is whether an aviation emissions trading system should be open (to credits and allowances from outside the system, presumably from activities under the UNFCCC) or closed (i.e. no access to such credits) (section 5.1). The open system concept has attracted wide support and appears to be acceptable from a policy and political perspective. Economic analysis confirms that an open scheme would more effective for meeting an emissions commitment: permit prices under a closed scheme could be perhaps 10 to 20 times higher than under an open scheme. However, it is noted that being open to another scheme entails developing rules compatible with that scheme, or adopting that schemes rules. Each of four types of trading scheme (cap and trade, baseline and credit, cap, credit and trade, and the performance standard approach) have their merits in an aviation context (section 5.2). For a mandatory scheme and for the sake of simplicity, cap and trade would seem the most appropriate approach. But it may be too rigorous to encourage participation in any voluntary scheme. Baseline and credit would probably give reasonably good environmental assurance, but would be less conducive to promoting market liquidity. A performance standard (or carbon intensity) approach, with permits allocated on the basis of fuel efficiency per unit of activity, would be hard to negotiate. However, it may have merit, particularly for a voluntary scheme ahead of mandatory requirements. Among other advantages, it should enable continued industry growth while incentivising energy efficiency. The extent of an aviation emissions trading scheme (section 5.3) covers several issues. These include: whether commitments should be imposed on countries or industry entities; which countries should face commitments (e.g. developed and/or developing countries; ICAO member states or UNFCCC Parties); and which industry sectors might expect to face commitments. Under an intergovernmental framework (e.g. UNFCCC or ICAO), commitments can only be assigned to sovereign states (i.e. countries that are signatories to the relevant agreement). Thereafter, governments are entitled to devolve such commitments to legal entities, so the eventual impact is likely to be felt at entity level. A commitment could be imposed on either ICAO member states or UNFCCC Parties. ICAO has been delegated responsibility for international aviation emissions, while the UNFCCC retains ultimate authority. An ICAO framework might maximise industry influence and offer the potential for wide geographical coverage. But it might reduce prospects of access to the Kyoto mechanisms (which are under the UNFCCC framework and rules). In the longer run, acceptance of the UNFCCC framework may be beneficial.
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The UNFCCC framework currently limits commitments to developed countries. However, participation by developing countries in an international aviation commitment would be environmentally beneficial and would probably help mitigate competitive distortions between countries air transport industries (the result of imposing additional costs on one airline on a route and not others). A route-based scheme, with equivalent commitments on all airlines (from all countries) flying that route, would avoid such distortions. However, it is politically unrealistic to expect developing countries to accept commitments in the short term. Doing so would contravene the Rio Declaration principle of common but differentiated responsibilities, and would require disassociation of international aviation emissions from the UNFCCC timescale for the adoption of developing country commitments. There is a general presumption that airlines would be best positioned to receive commitments, as devolved from Governments. They are generally considered to have the greatest control over technology deployment and aircraft operations. However, it is too early to exclude discussion of commitments on other industry sectors (i.e. manufacturers, fuel providers, and Air Traffic Control (ATC) providers), whether in combination with, or in place of, airline commitments. Of these, the most likely recipients would seem to be fuel- and ATC-providers. Commitments on fuel providers with permit-paid fuel sold onto airlines would offer efficiency advantages, but could make airlines subject to price risks that they would currently be unable to hedge. ATC providers could take responsibility for emissions associated with ATC delays and indirect routing, which result in increase in emissions outside airline control (excess emissions). There is no clear choice for permit distribution (section 5.4). Both grandfathering and auctioning have their advantages. Grandfathering forms the basis of most existing emissions trading schemes. Premised on gratis allocation, it is more likely to win industry buy-in. Caps are based on historical or present levels of activity, so are equitable to participants. However, it is hard to integrate new entrants equitably, there is potential for gaming, and free allocation of excess allowances risks contravening state aid regulations. Auctioning has economic advantages. It forces participants to focus on their actual needs and attaches a value to these needs. It enables equitable participation of new entrants. Auction revenues could be recycled to the industry. With a permit price of $50/tCO2, some $17 billion pa could be available in 2010 e.g. for R&D into emissions-reducing technology or for ATC improvements. However, auctioning imposes an immediate cost which risks deterring participation. Enabling the participation of new entrants on a fair and equally competitive basis is important. This could be done by grandfathering (from a credit reserve) on the basis of expected future activity levels or by adopting a performance standard approach to grandfathering. While some form of grandfathering would seem more logical from a policy perspective, economic analysis suggests a preference for auctioning. A combination approach may be appropriate. One option would be for Governments to grandfather the majority of permits, but retain a credit reserve to cover unforeseen eventualities in the rapidly growing industry, new entrants and perhaps for ATC, and to auction for over-emitters (this sending a price signal, promoting liquidity, and raising revenue). Secondary design elements The report also discusses the identified secondary design elements in an aviation context. On gases to be covered, there is strong rationale for restricting a commitment (and thus trading) to CO2, in the short term at least. Once Global Warming Potentials for other aviation GHGs have been determined, they too could be integrated into commitments, providing this is given legal basis, not currently being listed in Annex A of the Kyoto Protocol (section 5.5).

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A system of seller liability would probably be of most benefit to the industry, as a likely net buyer, and would also facilitate compatibility with the wider carbon market (section 5.6). To increase market and public confidence in the validity of emissions reductions from aviation and to enable wider carbon market compatibility, there are advantages in the industry adopting an internationally accepted monitoring, verification and reporting protocol, consistent with UNFCCC provisions, complemented by aviation-specific requirements. The standards could be applied by internationally or nationally accredited independent verifiers (section 5.7). A variety of institutional forms will needed to facilitate and regulate the international carbon market (e.g. registry, emissions allocating authority, regulatory body, independent verifiers, trading platform). They will represent a significant cost, and require suitable infrastructure and knowledge. Under a UNFCCC framework, the industry could piggyback on national and international institutions that would be developed to facilitate wider emissions trading. Under an ICAO framework, ICAO and other industry bodies would need to establish and pay for their own infrastructure. Under a voluntary trading initiative, the industry would need to balance the need for institutions with their cost (section 5.8). A trading system may have full, limited or no banking of emissions allowances or credits from one commitment period to the next. The industry ought to weigh up the flexibility and incentive for early action provided by banking against its potential for hoarding, which might lead to market price distortions. Unlimited banking is likely to be preferable, and is likely to be compatible with UNFCCC provisions (section 5.9). CO2-equivalent is the most widely recognised and adopted permit denomination. Its use in an aviation scheme seems sensible for both commodity trading and compliance (section 5.10). Trading systems require clearly defined rules. Under a UNFCCC framework, the industry would be subject to UNFCCC rules. In a voluntary scheme or under an ICAO framework, the industry may develop its own trading rules. The most appropriate form for the rules of action should be clearer after agreement on the nature of the commitment and trading system. There could be advantages in ensuring that rules are compatible with relevant UNFCCC provisions (section 5.11). Penalties for non-compliance are standard for trading schemes. Under a UNFCCC framework, the industry would be subject to UNFCCCderived non-compliance provisions. Under an ICAO framework, ICAO may develop its own penalties. In a mandatory scheme, penalties could be sufficiently rigorous to substantially exceed the benefits of non-compliance. In a voluntary scheme, penalties could be modest or absent, aiming to promote participation, not punish non-compliance (section 5.12). Financial incentives are sometimes offered to entice participation in voluntary schemes. Given high abatement costs, any financial incentive for a voluntary aviation scheme would probably need to be very high to elicit participation from entities who would not otherwise participate (section 5.13).

International Air Transport Association | Arthur Andersen |

1 Drivers for a potential aviation emissions commitment

1.1

The challenge: sustainable aviation

This chapter establishes the context for an aviation emissions trading scheme, and outlines some of the challenges facing the industry in achieving sustainable aviation1. The chapter starts by summarising the global significance of the air transport industry, then details its growth and the consequent rise in aviation emissions. It describes key drivers shaping the course of development of the aviation sector, as well as the recent responses of the sector to the new environmental challenges posed by potential carbon-constraints. The air transport industry plays a major role in global economic activity. In 1998, the industrys own turnover was estimated to be US$307 billion2. But the industry has far wider significance. It has contributed to the rapid growth in international trade over the last few decades by making it cheaper and quicker to move products and personnel across vast distances. Over 1,600 million passengers per year rely on the worlds airlines for business and vacation travel; by 2010, the worlds annual gross output from tourism is expected to be around US$6,800 billion3. In 1998 over 29 million tonnes of freight were transported by air, representing 40% of the monetary value of the worlds manufactured exports. In all regions of the world, companies and countries depend on the aviation industry to stimulate their economic growth. The economic contributions of the air transport industry are under pressure from new commitments in the imminent carbon-constrained marketplace. The industry is under pressure to restrict or reduce its contribution to climate change. Yet the predicted growth in air travel (IPCC4 predict a 5% increase in passenger travel from 1990-2015), will be accompanied by an increase in fuel use (IPCC predict a 3% increase over the same period), and thus an increase in carbon dioxide (CO2) emissions (IPCCs future scenarios suggests an increase by 2050 of 1.6-10 times the 1992 value). If aviation does not rise to meet the challenge of sustainability in this new environment, not only will its own opportunities for growth be stunted, but so will those for many other industries, and countries across the globe.
1.2

UNFCCC, the Kyoto Protocol and aviation

The ultimate objective of the United Nations Framework Convention on Climate Change (UNFCCC), signed in 1992, is to achieve the stabilisation of greenhouse gas concentrations in the atmosphere at a level that would prevent dangerous anthropogenic interference with the climate system. The UNFCCC commits developed (or Annex I) countries to: adopt national policies and take corresponding measures on the mitigation of climate change, by limiting its anthropogenic emissions of greenhouse gases and protecting and enhancing its greenhouse gas sinks and reservoirs (sub-paragraph 4.2(a)). This commitment was expanded by those countries acceptance of legally binding quantified emission limitation or reduction commitments (QELRCs) through the 1997 Kyoto Protocol.

ATAG (2000) Resolution on Sustainable Aviation. Air Transport Action Group. Defines sustainable aviation as the commitment

to meet the growing demand of passengers and shippers in a sustainable manner; maintaining an optimal balance between economic progress, social development and environmental responsibility.
2 3 4

ATAG (2000), The Economic Benefits of Air Transport. Air Transport Action Group. ATAG (2000) Resolution on Sustainable Aviation. Air Transport Action Group IPCC (1999) IPCC special report: aviation and the global atmosphere summary for policymakers. Intergovernmental Panel on

Climate Change.

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Article 2.2 of the Kyoto Protocol is currently the only regulatory driver for the limitation of greenhouse gases (GHGs) from international aviation. The UNFCCC framework currently treats domestic and international aviation emissions separately. Emissions from domestic flights are recorded in national inventories, using the 1996 revised IPCC Guidelines5 (see UNFCCC decision 2/CP.3) and are included in Annex I Parties assigned amounts under the Kyoto Protocol. Where Annex I Parties domestic aviation emissions form a considerable proportion of the countrys total GHG emissions, it can be expected that their programmes to implement the Kyoto Protocol will include measures to limit or reduce emissions from domestic flights. Parties are required to report emissions from international flights separately, but the procedures for doing so (i.e. for establishing which country owns which emissions for which flights) have not yet been established. International aviation emissions are thus not included in assigned amounts, and are not yet subject to Parties limitation or reduction commitments. Article 2.2 of the Kyoto Protocol requests Annex I Parties to pursue aviation emission reductions or limitations through ICAO. It is generally understood that this relates to international aviation emissions domestic aviation emissions being incorporated into Annex I Parties assigned amounts. Article 2.2 reads: The Parties included in Annex I shall pursue limitation or reduction of emissions of greenhouse gases not controlled by the Montreal Protocol from aviation and marine bunker fuels, working through the International Civil Aviation Authority and the International Maritime Organization, respectively. The UNFCCC Subsidiary Body for Scientific and Technological Advice (SBSTA) has been tasked with providing advice on the merits of eight options6 for allocating international aviation emissions to Parties. Three of the eight options have been discounted by Parties7, leaving five options on the table8. An initial assessment of the implications of these options for likely allocated emissions totals for 23 Parties has been carried out for the Dutch Government9. With reference to the remaining options, it concluded10: allocation by country of aviation fuel sales would allocate a comparatively large share of global international emissions to countries with a relatively well-developed aviation industry (in terms of number of departing flights), e.g. holiday countries such as Greece, Portugal and Spain; allocation by country of aircraft departure/destination and allocation by country of RTK departure or destination would give results similar to the allocation by country of fuel sales; allocation by airline nationality would allocate substantially more emissions to countries than under most other options.

J.T. Houghton, L.G. Meira Filho, B. Lim, K. Treanton, I. Mamaty, Y. Bonduki, D.J. Griggs and B.A. Callender, eds (1996) Revised UNFCCC (1996) Methodological issues: emissions resulting from fuel used for international transportation. Note by the UNFCCC (1999) FCCC/SBSTA/1999/20. The remaining options are: allocation to Parties where fuel sold; allocation to Parties according to country flag of operator;

1996 IPCC Guidelines for National Greenhouse Gas Inventories. Intergovernmental Panel on Climate Change.
6

Secretariat. Documents FCCC/SBSTA/1996/9/Add.1 and Add.2.

7 8

allocation to Parties according to country of departure/destination (or shared) of aircraft; allocation to Parties according to country of departure/destination (or shared) of passenger/cargo; no allocation.
9

A. Van Velzen and R.C.N. Wit (2000) National allocation of international aviation and marine CO2 emissions. Study The conclusions are subject to the caveat that they had been based on incomplete and frequently incompatible data sets.

commissioned by the Dutch Civil Aviation Authority: Delft.

10

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The timing of any international aviation emissions commitment is uncertain. Article 2.2 does not specify a timeframe for international aviation emissions. No target can be negotiated until the allocation mechanism (see preceding paragraph) has been resolved. The ICAO Executive Committee has recommended the ICAO 33rd Assembly adopt a resolution aiming at implementation in the first commitment period11. However, there appears to be a general belief that time has probably run out to negotiate any specific commitment for 2008-12 (the first commitment period), given that negotiations for the second commitment period (probably 20132017) are due to commence in 2005. Any restriction on international aviation emissions would most likely be incorporated into Parties targets for this second commitment period providing the UNFCCC Subsidiary Body for Scientific and Technological Advice (SBSTA) has agreed its preferred allocation mechanism ahead of 2005. Some argue that no international aviation emissions commitment is likely, because the Kyoto Protocol will not enter into force. To do so, the Protocol must be ratified by not less than 55 countries which accounted for at least 55% of the carbon dioxide (CO2) emissions from the developed (Annex 1) countries in 1990. Without the US, the Protocols entry into force will require ratification by the EU, its accession countries and Russia plus either Japan or a group comprising Canada, Australia, New Zealand and the former Soviet countries. If both the US and Russia fail to ratify, the Protocol cannot enter into force. Following the political agreement reached by 178 Parties at the resumed Sixth Conference of the Parties to the UNFCCC (CoP6bis), the prospects for entry into force are far higher than earlier in the year when the Protocol was rejected by the United States as being fatally flawed. Although entry into force is far from certain, there have been several indications that the compromise agreement12 may be sufficient for most Parties to ratify: the Canadian Prime Minister, the EU Commissioner and other EU officials, plus the Japanese Environment Minister have all subsequently reiterated their intention to ratify in 2002. This has led the ICAO Executive Committee to consider that it now appears likely that the Kyoto Protocol could enter into force in 200213. However, were the Protocol not to enter into force, it is unlikely that the driver for an international aviation emissions commitment would disappear. The UNFCCCs commitments (see, e.g., Article 4.2 above) would still be binding on Parties. There would be strong pressure for a wider, dominant agreement (perhaps a son of Kyoto) or regional (e.g. EU) initiatives driven by the spirit of Kyoto; such a scheme would drive aviation emissions trading rules in a similar way to the UNFCCC/Kyoto Protocol. There is likely to be increasing public pressure to assume a commitment; non-governmental organisations dedicated considerable attention to the issue at 14 CoP6bis . And there is still the potential for an international driver through ICAO (see section 1.2).

11

ICAO (2001) Agenda item 14: environmental protection. Updating of resolution A32-8: consolidated statement of continuing

ICAO policies and practices related to environmental protection. Document A33-WP/43, for consideration by the ICAO Assembly 33rd session, September 2001. The proposed resolution framed by the Executive Committee and recommended for adoption by the Assembly reads and Appendix I on Market-based measures regarding aircraft engine emissions): Endorses the development of an open emissions trading system for international aviation aiming at implementation in the first commitment period (2008-12) subject to entry into force of the Kyoto Protocol.
12 13

Enshrined as UNFCCC document FCCC/CP/2001/L.7 ICAO (2001) Agenda item 14: environmental protection. Updating of resolution A32-8: consolidated statement of continuing see the article Aviation emissions: fix the celestial loophole in the influential Climate Action Network newsletter Eco volume

ICAO policies and practices related to environmental protection. Document A33-WP/43. Paragraph 2.2.
14

CVI, issue 9, circulated at Bonn.

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1.3

ICAO

Through Article 2.2, ICAO has been mandated by the UNFCCC to pursue limitation or reduction of GHG emissions from aviation bunker fuels that are not controlled by the Montreal Protocol. ICAOs Committee on Aviation Environmental Protection (CAEP) has been addressing the issue. The findings presented at, and conclusions arising from,CAEP/5 (held in January 2001) were accepted by the ICAO Council in June 2001. Based on CAEPs findings and conclusions, the Council presented its proposals in the form of a draft Assembly Resolution - to the 33rd ICAO Assembly in September 2001. The UNFCCC Secretariat has subsequently invited Parties to prepare for a detailed discussion at the fifteenth session of the SBSTA 15 (October 2001). Key elements of the draft Assembly Resolution in relation to aviation emissions16 - include: acknowledgement of the polluter pays principle, balanced by a recognition of an emissions trading system or voluntary measures in the context of controlling greenhouse gas emissions; recognition of the potential advantages of harmonizing treatment of domestic and international aviation emissions and encouragement to [ICAO] States to strive to take action in a consistent manner to both domestic and international aviation emissions; acknowledgement that some [ICAO] States are already taking action to design options for reducing domestic aviation emissions; reiteration of the Council recommendation that any emissions-related levies be in the form of charges rather than taxes and that the funds collected be applied in the first instance to mitigating the environmental impact of aircraft engine emissions; recognition that CAEP has shown open emissions trading to be a cost effective measure to limit or reduce carbon dioxide emitted by civil aviation in the long-term and to respond to the commitments of the Kyoto Protocol; recognition that in the short term, voluntary measures (industry initiatives and negotiated agreements) could serve as a first step towards future actions to further reduce emissions; a request that the Council provide advice to States on the application of market-based measures; a request that the Council develop concrete proposals so that advice can be provided as soon as possible to the UNFCCC CoP; a request to States to refrain from unilateral action to introduce emissions-related levies inconsistent with the current guidance; endorsement of the development of an open emissions trading scheme for international aviation aiming at implementation in the first commitment period subject to entry into force of the Kyoto Protocol;

15 16

see UNFCCC document FCCC/SBSTA/2001/INF.1 ICAO (2001) Agenda item 14: environmental protection. Updating of resolution A32-8: consolidated statement of continuing

ICAO policies and practices related to environmental protection. Document A33-WP/43, for consideration by the ICAO Assembly 33rd session, September 2001. Resolution framed by the Executive Committee and recommended for adoption by the Assembly, Appendix H on the Environmental impact of civil aviation on the atmosphere and Appendix I on Market-based measures regarding aircraft engine emissions.

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 a request that the Council develop as a matter of priority the guidelines for open emissions trading for international aviation focussing on establishing the structural and legal basis for aviations participation in an open trading system, and including key elements such as reporting, monitoring and compliance, while providing flexibility to the maximum extent possible consistent with the Kyoto mechanisms Pending the Assemblys adoption of the new Resolution, the UNFCCC understands that ICAO intends to play a leadership role, particularly regarding proposals for caps, and that ICAO is urged to consider possible targets for aviation17. It is also likely to push for further work on the development of key elements of an emissions trading system, and consider pursuing voluntary agreements as a first stage to encourage near-term action, as a lead-in to a future regime. There appears to be considerable momentum within ICAO to respond to the UNFCCC mandate. Although the draft Assembly Resolution identifies entry into force of the Kyoto Protocol as a prerequisite for implementation of an open emissions trading system for international aviation in the first commitment period18, this momentum might even be sufficient for ICAO to push ahead with the emissions commitment process in the event that the Kyoto Protocol were to implode.
1.4

European Community

The European Union has become the main driving force for tougher international and regional environmental regulation generally. The European Commissions long-term policy target is to achieve improvements to the environmental performance of air transport operations that outweigh the environmental impact of growth. This is a very ambitious target, notably in the field of CO2 emissions19. Against this background, there are three key areas to consider for the airline industry: The potential impact of EU initiatives such as the European Climate Change Programme and the proposed EU emissions trading scheme; The potential for unilateral action by the EU, should international processes be perceived as dawdling; and The potential impact on aviation of the EUs burden-sharing agreement under the Kyoto Protocol.

1.4.1

European initiatives

The European Commission has led the development of the European Climate Change Programme (ECCP, expected to be presented to EU Ministers and the European Parliament in October 2001) including a Transport working group that has undertaken a cursory examination of aviation emissions. A subgroup on Aviation and CO2 emissions has thus far done little more than prepare the Member States for the CAEP process.

17 18

See FCCC/SBSTA/2001/INF.1 ICAO (2001) Agenda item 14: environmental protection. Updating of resolution A32-8: consolidated statement of continuing European Commission (1999) Air transport and the environment towards meeting the challenges of sustainable development.

ICAO policies and practices related to environmental protection. Document A33-WP/43. Appendix I.
19

Communication from the Commission to the Council, the European Parliament and ECOSOC, 30 November. COM (1999) 640. The Commission consider a fuel efficiency improvement of 4-5% pa (over 10-15 years) feasible, and intends to investigate the possibility of a voluntary agreement with the aviation sector to achieve this.

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As part of the ECCP, the European Commission has issued a draft Directive for an EU emissions trading programme20. The current intention is to cap only large fixed point sources of CO2. This suggests that the aviation emissions may be exempt from the schemes obligations but would also not be able to benefit from its opportunities (e.g. access to emission reductions from other sectors). However, the Commission has suggested the potential use of trading as an instrument to meet aviation emission commitments21 - so aviation could conceivably be introduced to an EU trading scheme in the medium term. In the meantime, the European aviation industry might consider the merits of any voluntary opt-in provision in the EU scheme, given that this should provide access to a larger market for emission credits (under an open trading system), thereby minimising the cost of compliance. Such a scenario is particularly likely if the Kyoto Protocol were to implode, but the European Union chose to continue both with broader UNFCCC climate change commitments, and international aviation emission commitments. In such a scenario, relevant parts of the aviation industry would be subject to the EU emissions trading rules. Other European Government bodies are increasing pressure on aviation. In September 2001, the European Environment Agency published a report22 which warned that current trends point away from achieving the EUs recently-announced objective23 of breaking the link between economic growth and growth in transport. It singles out air transport as remaining the least energy efficient mode of transport despite technological advances. 1.4.2 Unilateral European action

Particularly if no suitable international framework is agreed within a timescale deemed acceptable to European Ministers, there is significant potential for the European Union to take unilateral action that would restrict international aviation emissions. Indeed the EU has already signalled this with respect to the ICAO process24. The perception of a weak outcome from the 33rd ICAO Assembly (e.g. recommending a combination of voluntary action and open emissions trading, without the support of a suitably detailed work programme) could prompt the EU to: push harder for an international fuel tax or emissions charge; introduce a unilateral EU fuel tax or emissions charge; or request the return of international aviation emissions from ICAO to the UNFCCC. 1.4.3 Implications of the burden-sharing agreement

The so-called burden-sharing agreement of Article 4 of the Kyoto Protocol whereby the European Community has distributed its 8% emission reduction commitment among its Member States may have considerable implications for aviation.

20

European Commission (2001) Proposal for a Directive of the European Parliament and of the Council establishing a framework European Commission (1999), supra 4; paragraph 36 suggests the Commission would be amenable to the introduction of an European Environment Agency (2001) Indicators tracking transport and environment integration in the European Union. This objective is contained in the EUs Sustainable Development Strategy and revised Common Transport Policy The EU was the driver behind SBSTA agreement at its 13th session in 2000 to encourage ICAO to complete its work on this

for greenhouse gas emissions trading within the European Community. Brussels, 31 May 2001.
21

open emissions trading scheme including aviation.

22

European Environment Agency.

23 24

matter as soon as possible (see FCCC/SBSTA/2001/INF.1).

6 International Air Transport Association | Arthur Andersen |

Intra-EU flights, while international from the aeropolitical perspective of individual Member States, could be domestic as concerns the European Community. If the sum of emissions of the Parties participating in a bubble arrangement is to be treated as from a single Party for the purposes of compliance (and this has yet to be resolved at the UNFCCC level), then flights between the Parties in that bubble would appear to have to be counted by those Parties as domestic emissions. Whether or not the EU will decide to count intra-EU flights as domestic is likely to be primarily a political decision that may, in part, depend on pressure from other UNFCCC Parties. Inclusion would require action to be taken to mitigate the emissions from intra-EU flights regardless of progress on other international aviation emissions; this would be likely to impose considerable costs for the industry.
1.5

National

It is currently unclear which drivers at a national level may affect international aviation emissions. To date, individual Governments appear to have paid relatively little attention to the issue. For example, Denmarks national climate change strategy does not mention domestic aviation emissions and treats international emissions only schematically. The US Government foresees no specific initiatives. The UKs national climate change programme and consultation document on the future of the countrys air transport industry present no specific recommendations. In the short term, domestic aviation emissions are not to be covered by the UK Emissions Trading Scheme (active from April 2002), although the Government has received policy recommendations that outline the benefits of their inclusion for the industry. Such a low level of activity to date could present an opportunity for the industry (e.g. through ICAO) to take the lead in harmonising treatment of domestic and international aviation emissions. Different rules, different regimes and caps on different entities at national and international levels would be unlikely to foster an efficient, feasible and consistent response to the common challenge of meeting aviation emission commitments. There may be benefit for countries and the industry in either developing some form of ICAO guidance on how such commitments might suitably be implemented or in pushing for ICAOs remit to be extended to domestic aviation emissions.
1.6

Other international

Other intergovernmental fora have addressed issues relating to aviation emissions or broader climate change concerns. At the present time, they do not represent key drivers for the air transport industry. 1.6.1 Organisation for Economic Co-operation and Development

The Organisation for Economic Co-operation and Development (OECD) agreed guidelines on environmentally sustainable transport in October 2001. Although not legally binding, two of these could form the basis for future drivers affecting the industry and its GHG emissions: Guideline 4 states that the transport industry should set quantified, sector-specific targets derived from environmental and health quality objectives; and Guideline 7 states that the industry should construct packages of measures and instruments for reaching the milestones and targets of EST.

7 International Air Transport Association | Arthur Andersen |

In May 2001, the OECD urged its members to make changes aimed at decoupling a range of environmental pressures from economic growth, so as to ensure that continued economic growth does not result in further environmental degradation25. It also highlighted aviation air pollution as a grave environmental concern. 1.6.2 UN Commission on Sustainable Development

The UN Commission on Sustainable Development (CSD) oversees the implementation of Agenda 21, the action plan adopted at the Rio Summit in 1992. The 9th session of CSD (April 2001) included discussion on the transport sector (resulting in decision 9/3)26 and the global atmosphere (decision 9/2)27. There was consistent endorsement of Principle 7 of Agenda 21 that of common but differentiated responsibilities. This is code for commitments being expected of developed countries before they are assumed by developing countries a key issue both in the Kyoto Protocol discussions and in the international aviation emissions debate. However, decisions 9/2 and 9/3 contained little of direct relevance to aviation, with only weak references to the need to mitigate climate change and to the work of ICAO. Decision 9/3 encourages international organizations, such as the International Civil Aviation Organization (ICAO) in fostering transport systems that are affordable and do improve safety and reduce pollution and other negative impacts on the environment. Moreover, CSD decisions are not legally binding and are therefore unlikely to have a direct impact on the aviation sector. 1.6.3 World Health Organisation

Decisions taken thus far by the World Health Organisation (WHO) in relation to climate change (e.g. through its participation in Climate Agenda) do not directly impact on aviation, and the organisation does not therefore currently provide a key driver.

25 26 27

OECD (2001) An environmental outlook for the 21st century. Organisation for Economic Co-operation and Development. Commission on Sustainable Development (2001) Decision 9/3: Transport. Commission on Sustainable Development (2001) Decision 9/2: Protection of the Atmosphere.

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2 Emissions trading as a tool to meet aviation emissions commitments

2.1

Possible options for achieving an emissions commitment

ICAO, as part of its mandate from Article 2.2 of the Kyoto Protocol, has been examining a range of options potentially available to reduce the impact of aviation emissions and meet any future emissions reduction commitment. CAEP and its working groups have been focusing on three broad categories - technology and standards, operational measures, and market-based options28. This resulted in two reports discussed at CAEP/529, which formed the basis of the resulting conclusions and draft elements for an Assembly Resolution30. 2.1.1 Technology and standards

CAEP continuously monitors and assesses technological advances and evaluates the need for updating existing or introducing new emissions standards. CAEP/5, however, considered it undesirable to pursue the possibility of developing a CO2 emissions standard. It recognised that market pressures were sufficient to minimise these emissions. Furthermore, new aviation technology is rolled-out over a long time-scale, often taking 10 to 15 years from conception to market place, and the replacement of a fleet would take several decades. This would make it very difficult to make substantial improvements in time for a mandatory commitment as early as 2013. 2.1.2 Operational measures

The ICAO Assembly is expected to adopt an ICAO Circular on operational measures to minimise fuel use and emissions. It provides guidance for its member states identifying operational best practices including, for example, the implementation of new satellite-based Communications, Navigation, Surveillance and Air Traffic Management (CNS/ATM) systems, eliminating nonessential aircraft weight, carrying more passengers and freight per aircraft, optimising aircraft speed, limiting auxiliary power unit (APU) use and reducing taxiing times of aircraft. Although these measures could reduce the amount of fuel burned by 8-18%, the IPCC recognise that operational measures, like technical measures, will not fully offset the effects of increased emission resulting from the projected growth in aviation31. 2.1.3 Market-based options

ICAO CAEP/5 considered two types of market-based options - environmental levies and emissions trading schemes. Three forms of environmental levy were considered: a fuel tax, an

28

ICAO (1999) Statement from the ICAO to the 10th Session of the UNFCCC Subsidiary Body for Scientific and Technological CAEP Working Group 5 (2001) Market-based measures: report from Working Group 5 to the fifth meeting of the Committee on

Advice (SBSTA).
29

Aviation Environmental Protection. Document CAEP/5-IP/22; CAEP Forecasting and Economic Support Group (2001) economic analysis of potential market-based options for the reduction of CO2 emissions from aviation. Document CAEP/5-WP/24.
30 31

CAEP/5 (2001) Historical. Document CAEP/5 WP/86. IPCC (1999) IPCC Special Report: aviation and the global atmosphere summary for policymakers. Intergovernmental Panel on

Climate Change.

9 International Air Transport Association | Arthur Andersen |

en-route emissions charge, and a revenue-neutral emissions charge. Potential problems were identified for each of these levies, including issues of equity and competition, legal feasibility and complexity. Several different designs for emission trading schemes were considered. These comprised permutations of open and closed systems, with different permit distribution methods (e.g. grandfathering and auctioning). An open system was favoured, as it would allow the majority of reductions to occur in other industry sectors at a lower cost, thus minimising the scheme-wide costs of compliance. The key disadvantage identified was the potential difficulty involved in incorporating the rules of an aviation emissions trading scheme into those of a future Kyoto regime. The ICAO Councils draft Assembly Resolution endorses the development of an open emissions trading system for international aviation aiming at implementation in the first commitment period (2008 2012), subject to entry into force of the Kyoto Protocol and requests the Council to develop urgently the guidelines for such a system. 2.1.4 Voluntary initiatives

Voluntary mechanisms are seen primarily as a means of achieving near-term action by the aviation sector. The main options considered by ICAO are: an industry initiative, under which industry would propose a set of actions and / or targets that it voluntarily commits to meet; a negotiated agreement between government and industry to achieve specific reductions; or a hybrid of these two. CAEP concluded that a voluntary mechanism alone could not achieve an ambitious emission reduction target in the absence of a legally enforceable compliance mechanism. This view is supported by many environmental pressure groups, which have been sceptical about the robustness of voluntary agreements. The EU has also voiced its opposition to voluntary agreements alone.
2.2

What is emissions trading?

Emissions trading is a market-based approach to achieving environmental objectives that allows those reducing GHG emissions below what is required to trade the excess reductions to offset emissions at another source. Article 17 of the Kyoto Protocol provides the legal basis for trading of GHG allowances between Annex B countries with an emissions reduction commitment under the Protocol. The unofficial UNFCCC negotiating text released at the end of CoP6 bis in July 2001 suggests that there is likely to be agreement (at CoP7 in November 2001) that legal entities may trade, providing they have the authorisation of a Party, and providing that Party is not ineligible to participate in the mechanisms32. Ahead of this agreement, several emissions trading schemes have been designed and some implemented. Denmark launched a scheme in January 2001, and the UK scheme is to be launched in April 2002. A draft directive on an EU emissions trading system has been developed for adoption by the European Commission, and is to be considered by EU Governments in October 2001. Furthermore, corporations such as BP and Shell have developed and implemented internal trading schemes to meet voluntary emissions reduction targets, and a group of corporates have formed the Chicago Climate Exchange.

32

Anon (2001) Mechanisms pursuant to Articles 6, 12 and 17 of the Kyoto Protocol. Non-paper by the Co-Chairmen. See

paragraph 5 of the Annex to the draft decision on Article 17.

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2.3

The benefits of emissions trading

It enables emissions reductions to be made at the lowest cost Participants in an emissions trading scheme have the flexibility to make emissions reductions where it is economically viable to do so, and to buy emissions reductions where necessary, or sell where possible. In this way, and subject to certain assumptions about the world, competitiveness issues and transaction costs, the trading scheme community makes emissions reductions at the lowest overall cost. It offers the potential to make emissions reductions outside of the aviation industry in order to meet commitments To achieve more stringent emissions reduction commitments at reasonable costs, the aviation industry would require access to credits and permits from outside the industry. Open emissions trading provides access to such credits and permits and offers maximum flexibility in meeting an emission reduction commitment. It allows greater certainty over the achievement of environmental objectives Emissions trading involves the allocation of allowances by States to entities corresponding to a total volume of greenhouse gas emissions (the basic cap-and-trade model). These allowances, or credits, can be traded within an emissions trading scheme to assist entities in meeting their emissions reduction targets. States can reduce the amount of allowances within the market over time, thereby controlling the overall amount of greenhouse gases emitted. This allows greater probability that the emission reduction commitment will be met.

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3 Designing an Emissions Trading Scheme suitable for aviation

3.1

Overview of the project

Aware that there was much support for emissions trading as a tool to help meet any future aviation emissions commitment, IATA invited Andersen to investigate options for the design of an emissions trading scheme for aviation. The Andersen project, as agreed with IATA, was comprised of three Workstreams. These were successive and cumulative, with the first laying a foundation for the second, and the first and second forming the basis of the third. The agreed steps are shown in the following figure.

Workstream 1: Development of policy options and analysis of stakeholders Design and preparation of a stakeholders workshop c. 4 - 6 weeks

Confirming the scope and direction

Background report

Expert panel review

Workshop materials

Workshop

Feedback report

Workstream 2: Evaluating emissions trading options Strategic challenge and formulation Option evolution and design Detailed report on emissions trading options Expert panel review Recommendations for most appropriate emissions trading scheme

Strategic, Policy, Financial and Economic analysis c. 10 - 12 weeks

Workstream 3: Key findings and conclusions

Synopsis of policy and trading direction

Discussions with IATA management

Positioning Report

c. 2 - 3 weeks

12 International Air Transport Association | Arthur Andersen |

3.2

Analysing emissions trading schemes

Firstly, various emerging and existing emissions trading schemes and relevant academic papers were examined in order to identify the core components intrinsic to any emissions trading scheme. A division was made into primary and secondary design elements, to reflect the impact that each would have on the overall scheme design. In addition, critical success factors were identified which served as objectives that an emissions trading scheme for aviation would aim to achieve as well as criteria against which design elements could be assessed. These design elements and critical success factors were agreed with IATA and the Expert Panel (see section 3.3).
3.3

Consultation with industry and emissions trading experts

The project included the close involvement of stakeholders (see section 3.4) and other relevant experts. With IATAs input and agreement, an Expert Panel was formed to provide a filter procedure to aid decision-making and to provide insight and feedback on the acceptability of design choices and trade-offs. The experts were involved and consulted in Workstreams one and two, reviewing the material to be used for the stakeholder workshop, and the economic analysis of design options. They also had access to the background report produced during Workstream 1. Expert panel members were as follows:
Name Hugh Somerville John Begin Shigeyuki Ooka Malcolm Thompson Brian MacLean Erik Haites Jurgen Lefevere Martin Bartlam Duncan Eggar Organisation, position British Airways, Head of Sustainable Aviation Business Unit Northwest Airlines, Director Operational Safety and Environmental Affairs Japan Airlines (JAL), Director, Secretariat Environmental Committee Australian Department of Transport and Regional Services, Assistant Secretary Environment Group US Environment Protection Agency, Head of SO2 programme Margaree consultants, climate change consultant FIELD, Legal expert Jones,Day, Reavis & Pogue, Corporate Finance Lawyer Air BP, Environmental Leader

Specialist input was additionally sought, in an expert capacity, from Andrew Sentance (British Airways, Chief Economist) and Bryan Beudeker (Ansett New Zealand. Environmental Policy Adviser).
3.4

Assessing the background to the scheme design

To provide a sound basis for the project, a review was undertaken of aviation issues relevant to emissions trading. As agreed with IATA, this drew principally on relevant publications and discussions with stakeholders and experts. A background report was produced comprising three chapters: Chapter 1: The Challenge: Sustainable Aviation Chapter 2: Designing an Emissions Trading Scheme Chapter 3: Emissions Trading for Aviation

Chapter 1 examines air transport policy issues relevant to emissions trading, drawing from relevant policy and academic papers, scientific assessments and the work of international organisations. In particular, this involved:
13 International Air Transport Association | Arthur Andersen |

researching issues related to the predicted growth of the aviation industry, and its future sustainability; identifying and assessing the drivers for an aviation emissions commitment, both international and regional; and identifying the tools for addressing emissions from aviation and their limitations; and detailing special considerations for the air transport industry.

Chapter 2 seeks to consolidate the experience of some existing and emerging trading schemes33 in order to provide a basis of understanding for the choices that the air transport industry might make. It comprised an analysis of the design choices made in such schemes against the critical success factors, and an assessment of the lessons learnt. Chapter 3 provides a comparison and evaluation of current opinion on suitable emission trading scheme designs for aviation. Several authorities have expounded such views, in addition to the work of ICAO. This involved examining how the developing international rules may impact upon the design of an emissions trading scheme for the aviation industry, and relating the particular needs of the aviation industry to the design elements. It also includes a discussion of transition options and implications.
3.5

Obtaining stakeholder perspectives: the stakeholder workshop

Following the assessment of the background to the scheme design, a workshop was held to further analyse the design options in the context of the aviation industry and to determine possible design choices for an aviation emissions trading scheme. The workshop was developed jointly with IATA, and Expert Panel members contributed to the production of workshop inputs. The workshop aimed to: obtain an understanding of stakeholders preferences and concerns related to scheme design; obtain stakeholder views on suitability of design choices; and provide a context in which to understand the acceptability of trade-offs, for example between economics and policy requirements.

A number of stakeholders representing a wide range of perspectives were invited to attend the workshops, but some were unable to attend. The 12 eventual participants included representatives of: Medium- and large developed country airlines; Other key industry sectors (manufacturer, fuel provider); Government policy makers and negotiators in aviation and climate change;

33

The schemes used for this analysis were primarily the UK emissions trading scheme, the US SO2 trading scheme, the emissions

trading schemes in Ontario, and the BP internal scheme. We also drew lessons from the directive for the proposed European Union emissions trading scheme, the Denmark electricity producers emissions trading scheme, the Chicago Climate Exchange initiative, the Norwegian emissions trading scheme, the Californian Electricity Trading Market, the Transferable Quotas scheme for Commercial Fisheries in New Zealand, and greenhouse gas emissions simulations undertaken by companies in the electricity industry (GETS 2) and the Queensland Emissions Trading Forum (QETF).

14 International Air Transport Association | Arthur Andersen |

 International organisations (UNFCCC and WTO); Aviation NGO; and a Legal adviser. The workshop started with scene-setting presentations which ensured a common level of understanding of emissions trading issues. This was followed by a breakout activity. Participants were divided into three groups; each was given the mandate to draw up a core emissions trading scheme design that would be suitable for aviation. Groups assessed potential options for key scheme design elements against critical success factors. Groups reported back on their chosen scheme design, their rationale, and issues raised during discussions. A report was produced detailing findings from the workshop. This described various themes and areas of agreement that emerged during discussions and breakout activities. Key findings included the following: 1. there was support for trading as a potential tool to meet any emissions commitment; 2. this was coupled with awareness that the issues surrounding the design of an emissions trading scheme are complex and need further consideration; 3. emissions trading was thought to need a regulatory driver. If the Kyoto Protocol were not to enter into force, there would be no clear immediate regulatory driver; 4. this was balanced with the recognition of the value in starting in the absence of a driver, so long as a regulatory driver was anticipated (it was acknowledged that another agreement probably through ICAO, the UNFCCC or unilateral action by the EU could influence aviation emissions in a similar way to the Kyoto Protocol); 5. open trading was considered essential. The use of the Kyoto mechanisms would help participants meet emissions targets at minimum economic cost. Any trading scheme adopted by the aviation industry would need ultimately to have access to credits from, and be compatible with, a trading scheme under the Kyoto Protocol (or, indeed, under any other wider, overarching or dominant scheme); 6. there was no clear preference for a particular type of scheme although an absolute cap was seen as the most suitable way of ensuring the environmental integrity of a trading scheme. A cap was not seen as being incompatible with minimising economic cost, providing access to the Kyoto mechanisms were granted; 7. any trading scheme should begin with what is technically feasible and scientifically reliable. In the short term, this would mean that any trading system would be restricted to carbon dioxide. Other gases could perhaps be added at a later date when their impact was more widely understood and dependable measurement techniques had been developed; 8. institutional costs should be minimised by using existing or emerging ICAO, UNFCCC or other bodies and capabilities where appropriate and acceptable; 9. developing countries should be involved in the process of limiting or reducing international aviation emissions. However, at this stage the imposition of targets was thought to be politically unacceptable and would conflict with the principle of common but differentiated responsibilities, as reflected in the Kyoto Protocol (which imposes commitments, in the short term, on developed countries only). The scope of participation and coverage might be
15 International Air Transport Association | Arthur Andersen |

expanded between commitment periods (just as the list of UNFCCC Parties with legally binding commitments is thought likely to lengthen); 10. following allocation of allowances to Governments, airlines would seem the best positioned to take on emissions commitments as they were most able to control their emissions through the application of different operational measures and technologies. Inclusion of other industry players (e.g. airports and ATC providers) would have potential merit in order to reflect the reality that not all aircraft emissions are controlled by airlines. 11. on permit distribution, some form of grandfathering was thought the simplest, most costeffective and equitable way for permits to be allocated to legal entities; 12. further work might be needed to assess the relative costs and benefits of various types of trading schemes (e.g. cap and trade v baseline and credit); and 13. the equitable treatment of airlines on the same route was considered important to minimise competitive distortions as a result of the introduction of an emissions commitment.
3.6

Economic analysis of design options

Economic analysis formed the second workstream of the project. Its key results are integrated into sections 4 and 5. Main issues identified in the first workstream were analysed from an economic perspective, as agreed with IATA. The analysis included review of existing analysis, application of economic principles to analysis of issues and modelling work. The analysis took into account previous work on aviation emissions trading, seeking to extend, for example, the ICAO CAEP Forecasting and 34 Economic Support Group work . The work also used the AERO model, a tool developed for assessing policy options for emission reductions in the air transport industry; major conclusions 35 were supported by Andersens own analyses . The main topics analysed were: The integration of permit trading in the air transport sector with permit trading in other sectors or under other schemes; The effect of coverage of the trading scheme on competition between airlines; The effect of different extents of scheme coverage on the quantity of emissions reduction; and The method of allocation of permits, in particular whether permits are issued free or sold, and how any revenue raised from sale is used. The analysis was based on certain key assumptions about the regulatory framework , although most of the conclusions were valid for a variety of regulatory frameworks. Analysis was also
36

34

See, e.g., CAEP FESG (2001) Economic analysis of potential market-based options for reduction of CO2 emissions from Use of FESG work and the AERO model were at IATAs request. MVA, one of the AERO licensees, carried out runs of the

aviation. Document CAEP/5-WP/24.

35

AERO model for this work; Andersen did not validate the accuracy of the data input to the model, or the validity of the assumptions within the model, and takes no responsibility for its accuracy.
36

These assumptions were: carriers must hold permits in proportion to fuel used; the emissions trading scheme would be limited to

CO2; and that the Kyoto mechanisms are potentially available for trading.

16 International Air Transport Association | Arthur Andersen |

largely based on the assumption that the industry as a whole is largely competitive37, but identified key differences in results were the industry (or parts of it) less competitive. An economic analysis report was produced covering each of the main areas of analysis and also providing background on general principles of permit trading. The report provided conclusions on the relative economic advantages of the different scheme designs to inform the Workstream 3 analysis. The analysis concluded that there were strong advantages to an open scheme, which was defined as one that gives the air transport sector access to permits from sources with lower costs of abatement than the air transport sector, such as other sector or sinks. These sources could be accessed via Kyoto mechanisms or via other international trading mechanisms, depending on the regulatory environment. The analysis also concluded that the distortions arising from imposing obligations to hold permits on some airlines on a route but not others are potentially severe. This applies both when routes are highly competitive and when they are less so. In contrast the distortions arising from imposing obligations on some routes although not on others may be less severe (although potentially sever in some cases). However limiting coverage of the scheme, and thus the extent of any cap, risked limiting the scale of emissions reductions achieved. The initial allocation of permits was also examined. Auctioning of permits was found to have advantages in terms of economic efficiency, for example because revenue from permits sales may allow other taxes, such as those on value added or income, to be reduced. Alternatively such revenue could be used to correct other market failures, including any in the air transport sector. Revenues could also be used to incentivise extensions to scheme coverage, such as the inclusion of non-Annex 1 countries in a scheme. The effect of free allocation of permits depends on the basis on which they are issued. Issuing on a fixed basis, for example in relation to a 1990 baseline, may create revenue gains to the sector but does not weaken incentives to abate emissions with optimal patterns of consumption. Issuing permits in proportion to present emissions risks weakening incentives because it reduces the marginal cost of permits for additional flights, although it is not clear that this effect will be large in practice. Direct incentives for increased efficiency can be provided by allocation based on an efficiency standard.

37

The analysis assumed that the sector can be described as effectively competitive where: there is free entry and exit; there are

many carriers; costs of increasing production are similar for all carriers; and products are close substitutes.

17 International Air Transport Association | Arthur Andersen |

4 Key Policy Findings

This section seeks to identify the guiding principles that have come out of the analysis provided by Workstream 1 in particular. These principles are likely to provide the framework for the development of an industry position regarding any aviation emissions trading scheme.
4.1

The Kyoto Protocol is currently the only regulatory driver for an aviation emissions limitation; but if the Protocol were to collapse, UNFCCC - and perhaps other frameworks - would remain

Article 2.2 of the Kyoto Protocol sets the ground for an international aviation emissions commitment, requesting UNFCCC Parties to work through ICAO to limit or reduce their emissions from aviation bunker fuels. Were the Kyoto Protocol not to enter into force e.g. if the US and Russia were not to ratify this regulatory driver would disappear. However, UNFCCC commitments including the commitment to develop national policies that limit GHG emissions would remain valid. Most likely, these would form the basis for the development of a new international emissions commitment, which could include international aviation emissions from the outset.
4.2

International aviation is very likely to be required to limit or reduce its greenhouse gas emissions, most probably from 2013, but possibly from 2008. The industry will need to agree its position by the 34th ICAO Assembly in 2004, given that negotiations for the second commitment period (2013-2017) start in 2005.

The lack of agreement on how to identify or allocate - ownership of international aviation emissions prevented their inclusion in UNFCCC Parties assigned amounts under the Kyoto Protocol (i.e. for the first commitment period, 2008-12). Once allocation methods are agreed, the appropriate total of emissions can be added to Parties assigned amounts (under a UNFCCC framework), or allocated as aviation assigned amounts to ICAO member states and an appropriate limitation or reduction commitment could in principle be negotiated (under an ICAO framework). Either way, the industry could then be subject to an emissions reduction or limitation commitment. Presuming a scenario whereby the Kyoto Protocol enters into force, there appears to be a general belief among negotiators that time has probably run out to agree any specific commitment for 2008-12 (the first Kyoto commitment period): negotiations for the second commitment period (probably 2013-1017) are due to commence in 2005. Although a drive (e.g. from the EU or from NGOs) for a commitment in 2008-12 cannot be ruled out (particularly given the ICAO Executive Committees recognition of this possibility38 and the likely prominence given to the issue at

38

ICAO (2001) Agenda item 14: environmental protection. Updating of resolution A32-8: consolidated statement of continuing

ICAO policies and practices related to environmental protection. Document A33-WP/43, for consideration by the ICAO Assembly 33rd session, September 2001. Resolution framed by the Executive Committee and recommended for adoption by the Assembly, Appendix I on Market-based measures regarding aircraft engine emissions, proposes that the Assembly aim at implementation [of an open aviation emissions trading system] in the first commitment period (2008-12), subject to entry into force of the Kyoto Protocol.

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CoP739), international aviation emissions would be more likely to be incorporated into Parties targets for this second commitment period. This has three key implications. First, the international aviation industry is relatively unlikely to face a mandatory emissions cap for over ten years40. Second, if the industry avoids a commitment in 2008-12, it would be less likely that the industry as a whole will face a specific, internationally proscribed emissions commitment (a stand-alone target or industry bubble). It would be more likely that international aviation emissions would be incorporated into Parties assigned amounts and it would be at Parties discretion whether to allocate a proportion of their commitment to aviation41. Third, there is a growing belief that increasing pressure on developing countries in the UNFCCC process could result in them assuming emissions commitments for the third commitment period (2018-25?), with possibly some provision for voluntary participation in the second commitment period. Such a commitment would be likely to include international aviation emissions. Fears of inequity between the aviation industries of developed and developing countries, as a result of differing GHG emissions commitments, could thus conceivably be limited to the second commitment period.
4.3

The European Community is likely to provide a regulatory driver, but other international processes are less potent forces

The European Union has become the main driving force for tougher international and regional environmental regulation generally. There are three main threats to the industry, all of which could happen in the short to medium term (i.e. before the second commitment period and probably by 2008). First, the European Climate Change Programme could push for commitments, yet there is no current indication that aviation emissions will be incorporated into the proposed EU emissions trading scheme. Second, the EU may take unilateral action including the imposition of a fuel tax or emissions charge - should it perceive international processes to be dawdling. Third, there may be pressure for the emissions from intra-EU flights to be captured under the Communitys burden-sharing agreement, and thus subject to 2008-12 commitments. Currently, other intergovernmental processes (e.g. OECD, CSD) are not significant drivers for an aviation emissions commitment. However, outside ICAO and the UNFCCC, the OECD is the most likely forum in which the EU might pursue agreement to such a commitment. The aviation industry may wish to keep an eye on developments there.
4.4

Retaining the international aviation emissions framework within ICAO may enhance industry influence, but risks jeopardising access to the Kyoto mechanisms

Considering that the UNFCCC would be unlikely to hand over to ICAO its responsibility for domestic aviation emissions, and that domestic issues and activities are outside ICAOs (international) jurisdiction, ICAOs emissions work is likely to be restricted to international emissions. In doing so, ICAO has two broad options: it could explore the issue, achieve consensus among Member States and make recommendations to the UNFCCC Conference of the Parties; or

39

Document FCCC/SBSTA/2001/INF.1, presented by the UNFCCC Secretariat at CoP6bis, suggests (paragraph 9) that the

SBSTA may wish to take note of the information contained in this document in the preparation of a detailed discussion at the fifteenth session of the SBSTA [concurrent with CoP7].
40

Indeed, if the industry is pressed to assume a commitment during 2008-12, it could argue that it has had fewer years to prepare This issue is considered in more detail in section 4.8.

for implementation than other industries (listed in Annex A of the Kyoto Protocol).
41

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 it could, in theory (and presumably only with the agreement of the UNFCCC42) claim ownership of the international aviation emissions commitment concept and its implementation. There are advantages for the industry in retaining the issue within ICAO. First, ICAO is more likely to be receptive to industry needs and the industry has greater influence within it. Second, there would be the potential for wider geographical participation i.e. by all ICAO Member States rather than Annex I UNFCCC Parties (although see 4.8). This would address a key industry concern, supported by economic analysis and derived from the unique nature of international air transport: that an aviation emissions commitment imposed only on developed countries would significantly distort competitiveness patterns. Third, it would be easier to introduce a harmonising framework that sought to eliminate differences between countries implementation (and thus minimise competitive distortions). Fourth, there would be the potential for ICAO to develop its own eligibility criteria regarding sources and sinks projects thus increasing potential supply of permits. However, there are disadvantages of pressing for a permanent ICAO framework. Instead, it may be less risky to press for a second option: using ICAO as the vehicle to present recommendations to the UNFCCC, prior to incorporation into the UNFCCC system. First, having mandated ICAO, the UNFCCC is the ultimate arbiter of any ICAO decisions. UNFCCC dissatisfaction with ICAO decisions could prompt it to reclaim the international aviation emissions remit. Some Parties might also fear that establishing an emissions framework outside Kyoto could set an unhelpful precedent that might be followed on a national scale by non-Parties to the Protocol, which could potentially undermine the Protocols provisions and effectiveness. Second, the industry would need UNFCCC approval to access credits and allowances from the Kyoto (or equivalent UNFCCC) mechanisms: introducing its own definitions of sources and sinks (e.g. allowing credits from avoided deforestation projects, currently ineligible for the Clean Development Mechanism during the first commitment period) might jeopardise this access. Supporting incorporation into the UNFCCC system would mean that the air transport industry would be a player like any other in that system with guaranteed access to the same credit supply, and with no need for either a specific aviation emissions commitment or a specific aviation emissions trading scheme. Third, an aviation-specific system, with its own compliance and crediting provisions might incur objections from competitor international transport modes (road and rail) which would not have such flexibilities. Fourth, a system under ICAO could prompt objections from developing countries, which could challenge the legal basis of any commitment imposed on them. Fifth, it would be cheaper as there would be no need for the industry to develop and pay for emissions-related infrastructure. Sixth, incorporation into the UNFCCC assigned amounts would permit compatible treatment with domestic emissions (which are already covered in the Kyoto Protocols assigned amounts for 2008-12). It would reduce or remove inconsistencies (and encourage synergies) in the division in treatment and responsibility between domestic and international emissions. It could thus avoid potential fragmentation of entities carbon budget management strategies. While there may be advantages for the industry in initiating proceedings with a push for ICAO ownership, it is quite conceivable that a UNFCCC framework may be a better long term bet for the industry.

42

The idea that the UNFCCC is the ultimate arbiter of ICAO recommendations or decisions on international aviation emissions is

borne out by the reassertion of control evident in the document FCCC/SBSTA/2001/INF.1, discussed briefly at CoP6bis.

20 International Air Transport Association | Arthur Andersen |

4.5

There are good reasons to grant industry special consideration, but not all would justify lenient treatment, and they would risk the removal of access to Kyoto credits

There is frequent discussion of the special nature of the air transport industry, which has been linked to the special considerations that it could potentially be given within the context of the global effort to limit or reduce GHG emissions. There is considerable justification for the claims to special status. There are legal reasons (the industry was singled out in the Kyoto Protocol, and there is no agreement yet on how to allocate emissions in international territories to individual countries). There are economic reasons (an emissions commitment could jeopardise the industrys significant contribution to the world economy and one that is made on narrow margins). There are technological reasons (aviation has few available to make significant technological shifts). And there are scientific reasons (considerable uncertainties exist about the real contribution of aviation to global warming). These four sets of reasons might justify lenient treatment compared to other industrial sectors and could strengthen calls for greater flexibility. But such a position might also pose risks. There are also environmental reasons and these might support claims for more onerous treatment for aviation compared to other industries. First, aviations CO2 emissions (at 2% of the worlds total anthropogenic CO2 emissions in 199243) were only slightly less than those of the U.K.44, one of the worlds most industrialised countries. Second, the fact that emissions at altitude are thought to have a greater radiative forcing (and thus a greater contribution to climate change) than those at ground level could strengthen calls for the industry to account for its full radiative forcing effect or to accept more onerous commitments. Presumably, it could even prevent or limit access to the credits/allowances under the Kyoto mechanisms perhaps with a differential applied such that a tonne of CO2 emitted at altitude needs to be offset by, e.g., a greater differential of tonnes of CO2 reduced or removed at ground level. Third, while CO2 is the most abundant greenhouse gas emitted at ground level, it accounts for only 37% of aviation GHGs45. The other 63% of aviation GHG emissions relate to gases not covered by the Kyoto Protocol (i.e. nitrous oxides, water vapour, sulphate and soot aerosols). This means that a GHG emissions commitment under the Kyoto Protocol could only relate to just over a third of the industrys contribution to global warming. Some adverse reaction to this might be envisaged. It is conceivable that the aviation industry might (in the medium term at least) be required to assume a commitment relating to the other GHGs possibly under a subsidiary or successor legal instrument.
4.6

Any commitment is likely to be on Governments (probably UNFCCC Parties, but possibly ICAO Member States), who then have the option to devolve this commitment to aviation entities (probably principally to airlines)

The two international bodies with a mandate to explore an international aviation emissions commitment are the UNFCCC and ICAO. Both are intergovernmental bodies, whose jurisdiction only extends to their signatories/members. These bodies signatories (UNFCCC) or Member States (ICAO) are sovereign governments. A commitment orchestrated through the UNFCCC or ICAO can thus only be on governments. There is no legal basis for legal entities (e.g. airlines)

43

IPCC (1999) IPCC Special Report: Aviation and the global atmosphere. IPCC. CO2 emissions from aircraft (international and DETR (2000) UK Climate Change Strategy. [Annex B: emission projections.] UK CO2 emissions were 0.168 GtC/year in 1990. D. Lee and R. Sausen (2000) New directions: assessing the real impact of CO2 emissions trading by the aviation industry.

domestic aviation) were 0.14 GtC/year in 1992.

44 45

Atmospheric Environment 34: 5337-5338.

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themselves to be capped directly by an intergovernmental body. It will be up to sovereign governments to decide whether (and, if so, how) to devolve their commitments to the entity level. If Governments wish to devolve international aviation commitments to an entity level, they will need to decide which sectors should receive targets. The general view seems to be that the airline sector would be the most likely recipient, as airlines are demandeurs for both fuel-efficient equipment design (from engine and aircraft manufacturers) and fuel (from fuel providers; section 5.3 discusses the possibility of a permit-paid fuel system) and thus have a certain degree of control over actual emissions. In turn, airlines would be likely to pass on the cost of their obligation to customers, who stand at the apex of the demand pyramid. Air Traffic Control (ATC) providers could in principle also receive a commitment. This would depend, in part, on how flight emissions were calculated for the purpose of the overall commitment. Options include: restricting the commitment to actual emissions, which are increased by emissions due to ATC delays and sub-optimal routing; or a process similar to that of Air Navigation Charges, whereby fixed proxy emissions totals for each fixed route length are developed, based on standard fuel consumption rates per km for each type of aircraft. This might be easier and less costly to administrate, but would lower both environmental integrity of and market confidence in an aviation emissions system. If the Kyoto Protocol enters into force, commitments are more likely to be placed on UNFCCC Parties than ICAO Member States. As noted in section 4.4, there may be benefits for the industry in pressing for retention of the process of developing, undertaking and administering international aviation emission commitments under ICAO. However, as the instigator and management authority of the intergovernmental climate change mitigation system, the UNFCCC is more likely than ICAO to administer any international aviation emissions commitments.
4.7

The industry ought to consider whether it prefers a stand-alone target or a target integrated into national assigned amounts. A resulting variety of implementation of an international aviation emissions commitment would call for an overarching structure or guidance, e.g. through ICAO

The current format of any aviation emissions commitment is uncertain. The key options are a stand-alone target (an industry bubble, the first of its kind) or integration into assigned amount. A stand-alone target (e.g. which could be a limited increase above 1990 emissions by 2010 rather than an absolute reduction46) would be allocated among individual governments (see section 4.6) via whatever UNFCCC allocation mechanism is agreed (see section 1.247). It could then be retained separately, retained separately but with a gateway into domestic assigned amounts, or fully integrated into assigned amounts. The choice depends, in part, on timing (first or second commitment period), locus of framework (ICAO or UNFCCC)48 and the extent to which the industry claims special treatment. A stand-alone

46

Not all emissions commitments are reductions; they may also be limitations. This is explicit in the Kyoto Protocol term quantified

emission limitation or reduction commitments. For example, should it ratify the Kyoto Protocol, Australia will have agreed to limit its GHG emissions to 108% of 1990 levels by 2010 i.e. to allow for an 8% increase in emissions.
47

See also document UNFCCC (1996) Methodological issues: emissions resulting from fuel used for international transportation.

Note by the Secretariat. Documents FCCC/SBSTA/1996/9/Add.1 and Add.2; and document UNFCCC (1999) FCCC/SBSTA/ 1999/20.
48

The pros and cons of an ICAO framework versus a UNFCCC framework are discussed in section 4.4.

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target would be most likely in an ICAO framework, in the first commitment period (as assigned amounts will already have been identified) and if the industry presses for special consideration. Integration into assigned amounts would be most likely in a UNFCCC framework, in the second commitment period and where industry does not seek special consideration. A stand-alone target would focus attention on the air transport industry. It would require specific compliance provisions with government compliance assessed separately to compliance with their UNFCCC/Kyoto Protocol commitments. It would require the development of specific infrastructure and institutions. Negotiators and industry representatives should consider assessing whether the industry is a sufficiently significant contributor to climate change (at 2% of global emissions) to justify conducting a time- and resource-intensive parallel set of negotiations potentially for each commitment period. If this route is chosen, adoption of a stand-alone commitment during 2008-12 should not preclude integration into assigned amounts during subsequent commitment periods. The alternative is to press for integration into assigned amounts. This would disperse the international aviation commitment, perhaps diminishing its profile. The manner of implementation would be up to individual governments some might choose to spare their aviation industry, covering its emissions target with carbon savings made elsewhere. The latter scenario could create potential for vastly different trading systems to be implemented, with different airlines or routes subject to entirely different commitments and with access to entirely different tools. This would provide major disruption to competitiveness patterns that would not be in the wider interest of the international aviation community. Under this scenario there would thus seem to be considerable benefit in ICAO as the principal industry forum and authority adopting recommended guidance on principles and procedures for implementing aviation emissions commitments. This could for example encompass the identification of best practice for: selecting sectoral recipients of commitments and involving other sectors; minimising competitiveness issues; selecting emissions allowance allocation methods; and recommending appropriate options for other trading scheme design elements. harmonising the treatment of international and domestic aviation emissions; ICAO could conceivably adopt additional roles. These could include: providing the forum for discussion (or negotiation) of allocation methods and commitment levels; and presenting well reasoned argumentation and recommendations on aviation emissions for adoption by the UNFCCC CoP.
4.8

Although from an equity and environmental perspective it is desirable to have global participation, it may be politically difficult to achieve this

The wider the geographical scope of emissions commitments (i.e. to developing as well as developed countries), the greater the potential contribution to mitigating climate change and the
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less the disruption to competition. Clearly then, global participation would be desirable. But it may be politically difficult to achieve. Given that only developed countries currently have commitments under the Kyoto Protocol, it will probably be very difficult, under a UNFCCC framework, to persuade developing countries to do likewise for international aviation. It would perhaps be less difficult to do so under an ICAO framework, given that there is no explicit differentiation in commitments on developed and developing country ICAO member states other than the ICAO practice that recognises the particular situation of developing countries. However, such an outcome would still be rather unlikely as developing countries would be likely to try to press the Kyoto (and Rio Earth Summit) principle of common but differentiated responsibilities This likely differentiation between developed and developing country commitments may last only the duration of the second commitment period (probably 2013-17), given the tacit assumptions that: (a) there will be no international aviation emissions commitment before 201349; and (b) developing countries will accept some form of UNFCCC emissions commitments for the third commitment period (probably 2018-25). Moreover, given that perhaps 77% of aviation emissions reputedly come from flights between Annex I countries, the limitation on environmental effectiveness would not be too significant. This is particularly apparent when one considers the general acceptance that aviation emissions commitments should be limited to CO2 in the short term, when this gas contributes just 37% of aviations global warming impact. Developed countries that feared significant distortion to the competitiveness of their aviation industry could potentially seek remedy through individual Bilateral Air Service Agreements, and their provisions relating to fair and equal opportunity.
4.9

Given the industrys marginal returns and high growth expectations, emissions trading is likely to be an appropriate tool to help meet emissions reduction commitments

The ICAO CAEP analysis has shown that the aviation industry has limited technological and operational opportunities to limit or reduce its emissions in the short to medium term; the rate of efficiency improvements through these is unlikely to match the rate of industry growth. There is thus a real possibility that emissions commitments could only be met if industry growth were reduced; particularly given the industrys marginal returns, this prospect is clearly undesirable. Emissions trading is one tool that could help the industry meet its commitments, while minimising the impact on growth. Trading offers participants the flexibility to source lowest cost abatement opportunities from outside its own activities. It has the potential to maximise gain, and minimise pain.
4.10

An open system is a no brainer, but being open to trade with other sectors means accepting relevant trading rules

Available evidence and stakeholder perspectives concur that any trading scheme involving aviation must be open to trade with other sectors. Within a UNFCCC context this is generally understood to mean full access to the allowances and credits available from eligible sources and sinks through the three Kyoto mechanisms (international emissions trading, Joint Implementation and the Clean Development Mechanism) within the definitions and eligibility criteria agreed by the UNFCCC. Within an ICAO emissions framework, this might mean being open to a variety of offset options (for which definitions could follow the UNFCCC or, in theory, could be derived from unilateral ICAO decisions).

49

see section 4.2

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However, this approach would risk losing access to the supply side offered by the Kyoto Protocol/UNFCCC (or another dominant scheme, should one emerge). Access to UNFCCC credits and allowances will almost certainly mean accepting UNFCCC definitions, rules and provisions. In deciding between developing its own framework under ICAO and integrating itself into the UNFCCC, the industry should consider weighing up the potential total supply of credits and allowances from each side, as well as political acceptability and legal feasibility issues.
4.11

There are advantages in preparing for a mandatory commitment with a voluntary trading scheme

Particularly if there is unlikely to be a mandatory emissions commitment for ten years, the industry may face increasing pressure to adopt an effective voluntary initiative an approach already recognised by ICAO50. A voluntary trading programme could perhaps be useful in this context and would be likely to attract political approval. It would also offer additional benefits. It would give the industry the opportunity to explore the potential effectiveness of emissions trading as a tool to meet commitments. It would present an opportunity for a smooth transition between a short term voluntary initiative and what is likely to be a key (market-based) mechanism for meeting emissions commitments in the longer term. Participants would be able to trial different trading strategies without fear of stringent non-compliance penalties. It would also give the aviation industry the opportunity to catch up on other energy-intensive industries who will already be trading as a way of meeting emissions commitments; UK companies, for example, will have the opportunity to hone their emissions management and trading skills as soon as April 2002, when the countrys national scheme unrolls. The exact approach for a voluntary scheme would be open for discussion. One possibility would be that participants accept an absolute limit on emissions. This need not be an absolute reduction in emissions, but could be tailored to reflect expected industry growth; in a similar fashion, for example, Australias Kyoto Protocol commitment allows the country an 8% increase in its emissions relative to 1990. Another possibility would be some form of performance standard based approach, which would reward entities that had already taken action to improve fleet efficiency. Yet another possibility would be to focus on offsetting (in part or in their entirety) new emissions above an agreed baseline (e.g. 2000); in this way, only additional growth would be targeted rather than existing activities. Whatever scheme is chosen, it should have the political and public perception of being credible. Such credibility would need to be carefully determined. One potential measure might be the successful negotiation of recognition (by Governments) of early action. There may be merits in prefacing any voluntary trading scheme with an electronic trading simulation.

50

see, e.g., ICAO (2001) Agenda item 14: environmental protection. Updating of resolution A32-8: consolidated statement of

continuing ICAO policies and practices related to environmental protection. Document A33-WP/43, for consideration by the ICAO Assembly 33rd session, September 2001. This includes recognition that in the short term, voluntary measures (industry initiatives and negotiated agreements) could serve as a first step towards future actions to further reduce emissions.

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5 Assessment of Options for Scheme Designs by Design Element

Emissions trading schemes can be deconstructed into individual design elements (see Appendix). Workstreams 1 (policy assessment) and 2 (economic analysis) provide the basis for the following assessment of options for each design element in the international aviation context.
5.1

Open vs. Closed

An open system has wide support among relevant aviation authorities, climate change authorities, and environmental NGOs. An open system will therefore be politically acceptable, and would facilitate compatibility with future international rules and other emissions trading schemes. It is recognised as the most cost-effective option in reducing greenhouse gas emissions in the long term. An open system for aviation is generally understood to be a system that allows credit supplies derived from activities under the UNFCCC/Kyoto Protocol. The economic analysis has confirmed that an open scheme is a far more economically effective way of meeting an emissions commitment. In terms of economic efficiency, the essential feature of any trading scheme should be that most reductions in emissions are made outside the aviation sector, because emissions in the sector are of high value and expensive to abate. Under an open scheme, aviation would be expected to be a net buyer51 as its internal abatement costs are likely to be higher than the expected market price. Buying in permits would allow the air transport sector to continue to grow. In contrast, under a closed scheme, the supply of permits would be restricted and the price would be high; air transport growth would correspondingly be curtailed. Economic analysis also indicated that permit prices under a closed scheme may be some 10 to 20 times higher than under an open scheme if the sector is subject to a cap imposing a reduction in emissions relative to 1990 levels. Prices may be $600/tonne of CO2 under a closed scheme52 compared with $25-50/tonne of CO2 under an open scheme. Correspondingly volumes of traffic are likely to be greatly reduced under a closed scheme compared with an open scheme and those passengers who continue to fly would face large fare increases as a result from high permit prices. The reduction in traffic would mean that total airline profits would be reduced. A less stringent target would reduce the severity of these effects but they would remain large with any target requiring a significant reduction in the rate of growth of the sector. The price of permits is likely to be reflected in increased fares; the higher the permit price the greater the increase in fares. For a permit price in the range $25 to $50/tonne of CO2, which is potentially typical under an open scheme, the average price of a London to New York ticket might rise by some $11/ticket to $21/ticket. Higher permit prices would lead to correspondingly greater increases.

51 52

Indeed, the economic analysis suggests that the industry might buy some 90% of its required reductions from outside. Calculations derived from the tables in the Appendix to the AERO-model indicate that fuel costs are of the order of 10% of

average costs (an approximate average, with inevitable variations between routes and carriers), and demand for air travel is relatively inelastic, with a 10% rise in fares leading to only a 7% reduction in demand on average. A 100% rise in the fuel prices (taken here to including the price of permits) thus leads to only a 7% reduction in demand. This means that the rise in costs (and reflected in a rise in fares) needs to be large to counteract the rise in demand expected by 2010. To reduce emissions in 2010 to 95% of 1992 levels entirely by increases in fuel prices would require a 770% rise in fuel prices, equivalent to a levy of $2000 per tonne of fuel or $634 per tonne of CO2, compared with a base fuel price in the model of $220/tonne of fuel.

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Not all carriers will have their profitability affected equally. Relatively fuel efficient airlines may to some extent gain if there are fare increases which are greater than their cost increases. This may happen if fare increases in the market are driven by the costs of less fuel efficient airlines. Economic analysis has also indicated that the price volatility within a closed scheme is likely to be higher than in an open scheme, even in a transitional arrangement before moving to a full closed scheme. For these reasons, an open system would be the preferred option for the aviation industry, even in a transitional scheme. However, one specific alternative to open trading might be feasible an essentially closed system (for example based on a performance standard; see section 5.2) but with access to offset measures (notably sinks) or to other forms of low cost permits. This could be conceivable under three scenarios: If the Kyoto Protocol were to implode (and, with it, the regulatory driver of Article 2.2), to be replaced by a similar commitment under ICAO (see section 1.2); If ICAO member states agree that ICAO retains full control over international aviation emissions, and remove it from the UNFCCC realm; In the case of a voluntary scheme ahead of mandatory commitments under the UNFCCC. In the first scenario, ICAO would be entirely free to develop whatever system was acceptable to its Member States. But there are issues to consider with the second and third scenarios. The industry should carefully consider whether the second scenario would be in its best interests (see section 4.8 for a synopsis of the arguments). In the third scenario, participants would probably be required to use UNFCCC definitions (e.g. of eligible sinks) agreed intergovernmentally on the basis of internationally developed scientific research if it were to receive credit during the mandatory commitment period for its early action. Just as projects under the UNFCCC Activities Implemented Jointly scheme are to stand a chance of getting credits usable to meet Kyoto Protocol commitments only if they meet (ex post) the rules for Joint Implementation or Clean Development Mechanism projects, it would seem unreasonable to expect that Parties would accept giving credit for particular activities that were not eligible under the UNFCCC. If residual opposition to an open scheme strengthened, one potential compromise would be to have the scheme open to domestic aviation emissions only. This would facilitate entities coherent central management of their whole (domestic and international) emissions budget.
5.2

Type of scheme

There is no unequivocal choice between a classic cap and trade model, the more ad hoc baseline and credit approach, the hybrid cap, credit and trade model or the carbon intensity approach inherent in a performance standard. Cap and trade would impose an absolute limit on emissions: this would be compatible with (and would facilitate integration with) the underlying principle of the Kyoto Protocol (trading below a cap). It would also give the greatest environmental certainty as to the level of emissions. Presuming that aviation would be able to buy in credits from outside its industrial sector (see 5.1), it would effectively be a cap, credit and trade scheme so all participants have the potential to meet their commitment. Careful consideration should be given to the baseline year, so as not to penalise companies that had taken early action, e.g. by purchasing more efficient aircraft, nor to reward those that operated older, less efficient fleets.

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For a mandatory scheme under the auspices of the UNFCCC (i.e. if and when a formal emissions commitment is agreed for the second and/or subsequent commitment period) and for the sake of simplicity, cap and trade would seem the most appropriate approach. But it may be too rigorous to encourage participation in any precursor voluntary scheme. Baseline and credit would probably give reasonably good assurance over the achievement of environmental objectives, as the baseline can be lowered over time towards a defined target. However, it would be less conducive to promoting liquidity, as the market would be thinner, because most of the emissions commitments would be accounted for by the baseline, with only surpluses or deficits traded. An industry-wide performance standard (or unit) approach, with permits allocated on the basis of fuel efficiency per unit of activity, would present a considerable challenge for negotiation, particularly given that proper benchmarking of individual performance against an industry standard would require a case-by-case approach of take account of all individual circumstances. However, there may be some merit in considering such an approach, particularly for a voluntary scheme ahead of mandatory requirements53. Being based on a carbon intensity parameter (i.e. amount of carbon emitted per unit of output), a performance standard would allow the continuation of industry growth, while providing an incentive for improving energy efficiency. The potential for more energy-efficient airlines to become net sellers would increase market liquidity, and provide the potential for supply even in a closed trading system. It would presumably enable easy participation for new entrants who could compete on the same terms as existing participants (and may even benefit from using newer, more efficient aircraft). Moreover, economic analysis shows that allocating free permits on the basis of present fuel efficiency would increase incentives for abatement, which may or may not be economically efficient, depending on whether emissions reduction targets have been set at the optimal level. A performance target approach would tend to increase both the quantity of flights and fuel efficiency relative to the case where fixed amounts are grandfathered or permits are auctioned (see section 5.4). The approach is not without its drawbacks, but even these can be countered. There is no guarantee that a unit approach will make any contribution to limiting absolute emissions, nor provide any incentive for it to do so. It would be more complicated to administer than a system based on absolute emissions, as the unit-based approach is not immediately compatible with the absolute approach of the Kyoto Protocol the unit of trade would be quite different. It would be important to establish a direct relationship between an efficiency standard expressed in, for example, gallons/RTK and a carbon currency expressed in tonnes of CO2 equivalent. The resulting conversion factor would then enable absolute permits to be bought from outside the system and converted into the unit efficiency parameter, and would prevent entities with domestic aviation emission commitments from having to manage these separately (as these would be quantified in absolute terms). As the performance standard approach would allow for the continuation of industry growth albeit cleaner growth there might be particular merit in considering it for the basis of a voluntary

53

A. Sentance and H. Pulles (2001) Discussion paper on the initial allocation of permits at the beginning of each year:

benchmarked allocation. Paper for CAEP WG 5 (market based options). CAEP 5/WG5 WP5-5/3. The authors agree with this concept, suggesting that one could define the benchmarked initial allocation as an efficiency target for each airline (defined in terms of emissions per RTK). Airlines that met their target would not need to buy or sell permits. Airlines which were more efficient than the target level would be net sellers of permits to airlines which did not meet their target. The first step in developing this system could therefore be the development of a system of efficiency targets which formed the basis of a voluntary commitment by airlines to curb emissions.

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scheme open to all entities. An energy efficiency-based commitment might also increase incentives for non-airline members of the industry to participate in emissions-related activities (i.e. they could benefit from crediting for more efficiency fuel/equipment). Finally, it could perhaps also provide the basis for the voluntary participation of developing countries, assuming that any mandatory (absolute) commitment will bite first on developed countries (see 5.3) and would thus be more effectively addressed through cap and trade. A similar proposal binding caps on developed countries complemented by voluntary energy efficiency targets for developing countries has been tentatively mooted as a possibility in the broader UNFCCC context, as the first (second commitment period) step towards full developing country participation54.
5.3

Extent of scheme

There are several issues involved in this category: Whether commitments should be imposed on countries or industry entities; Which countries should face commitments (developed v developing; ICAO member states v UNFCCC Parties), and whether others can participate voluntarily; Which entities might expect to face commitments in some form. Whether directly or indirectly, the burden of limiting international aviation emissions is likely to fall on the industry. Some have argued for imposing an emissions commitment directly on emitting entities (e.g. airlines). However, the only current legal basis under an intergovernmental framework (such as UNFCCC or ICAO) is for commitments to be allocated to sovereign states (i.e. countries that are signatories or member states of the relevant agreement). Thereafter, governments are entitled to devolve such commitments to legal entities, and it can be expected that many authorities will do so. A voluntary initiative, on the other hand, would more likely be industry-led. From an aviation industry perspective, there are arguments both ways for any such commitment to be imposed on ICAO member states or UNFCCC Parties. Both are feasible routes; while ICAO has been delegated responsibility for pursuing options to limit or reduce (international) aviation emissions, the UNFCCC does retain ultimate authority. A framework within ICAO might give the industry the greatest potential influence. And not incorporating the UNFCCCs explicit split between developed and developing country members it might be environmentally beneficial, giving the opportunity to cover the entire global total of international aviation emissions. An ICAO scheme might also open coverage to developed countries that are not Parties to the Kyoto Protocol (most likely including the United States). But an ICAO-based commitment might also reduce the prospects of having access to credits and allowances through the Kyoto mechanisms (which are under the UNFCCC framework and subject to UNFCCC rules). Acceptance of the UNFCCC framework (i.e. imposition of any commitment on Kyoto Protocol signatories) may thus, in the longer run, be a more beneficial position for the industry to take.

54

B. Mller, A. Michaelowa and C. Vrolijk (2001) Rejecting Kyoto: a study of proposed alternatives to the Kyoto Protocol. Climate

Strategies, July 2001 (pre-publication copy for general distribution). While rejecting the feasibility of permanent global commitments based on emission intensity, the authors consider that emission intensity considerations might form useful input to exploring ways of quantifying commitments for some developing countries, perhaps in the form of voluntary second-period commitments under Kyoto. However, they premise this on being able to resolve the considerable inequities between developing countries that such an approach might exacerbate.

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However, these issues might not need to pose excessive problems. First, the environmental perspective. A large majority of international aviation emissions are thought to come from flights between Annex I countries. Removing developing countries from the commitments equation would have less of an effect on environmental integrity than excluding non-CO2 aviation GHGs (CO2 accounts for just 37% of aviation radiative forcing55). Second, the competitiveness issue. At present, the imposition of a mandatory international aviation emissions commitment before 2013-17 (the expected duration of the 2nd commitment period) seems unlikely. Some form of GHG emissions commitment on developing countries could come into effect by the 3rd commitment period (expected to be 2018-25). Such a commitment could be expected to relate to international aviation emissions as well as all domestic GHG emissions. So in the end there may only be a five year time lag (2013-17, the likely duration of the second commitment period) when the developed v developing country competitiveness issue would exist. On the issue of geographical coverage, universal participation (i.e. by developing as well as developed countries) is clearly advantageous for both the environment and to mitigate competitive distortions between countries air transport industries. A wider geographical scope increases the level of aviation emissions subject to a commitment. Moreover, economic analysis has raised competitiveness concerns. Obligations based on carrier nationality may introduce distortions to competition on some routes because different carriers flying on the same route may have different obligations. If the route is highly competitive this could drive some carriers (e.g. from developed countries) with an obligation to hold permits off routes, because they may not be able to compete on price with those carriers (e.g. from developing countries) who do not have a similar obligation. Additionally, there may be knock-on effects to other routes due to the presence of joint costs and the network nature of the industry56. A route-based scheme (i.e. with equivalent commitments on all airlines flying that route) would avoid introducing competitive distortions on individual routes57. However, it is politically unrealistic to expect developing countries to accept an international aviation emissions commitment in the short term. Not only would it contravene the principle enshrined in the Rio Declaration (Earth Summit, 1992, principle 16) of common but differentiated responsibilities, but it would be impossible to disassociate international aviation emissions from the UNFCCC timescale for the adoption of developing country commitments. It is unlikely that a developing country Government would accept a climate change commitment simply because this commitment was orchestrated by ICAO rather than the UNFCCC. The same might doubt also apply to the United States, which might be considered unlikely to take action on international aviation emissions, unless similar schemes were introduced for other transport sectors. The geographical coverage issue also influences the economics of options for assigning international aviation emissions to individual countries (a consideration akin to SBSTAs

55

D. Lee and R. Sausen (2000) New directions: assessing the real impact of CO2 emissions trading by the aviation industry. If the market were less competitive the effects on market share might be more limited because carriers are able to absorb some

Atmospheric Environment 34: 5337-5338.

56

of their permits costs in existing profits. Changes in market share might be further reduced if airlines are perceived as offering different services, e.g. due to loyalty to a national flag carrier. Nevertheless, analysis suggests that the distortions to competition would remain potentially significant relative to the route-based permit scheme.
57

On a route-based scheme, some switching between destinations by carriers and customers is conceivable, but this would be

unlikely unless passengers view routes as close substitutes. However, introducing new stop-overs to create new routes which are close substitutes and distortions of competition between rival hubs which offer similar services may lead to more significant effects. Moreover, some potentially important routes would be excluded because they involve non-Annex I stop-over points, e.g. most routes between Europe and Australia, via Bangkok, Kuala Lumpur and Singapore. Non-inclusion of these routes would compromise environmental effectiveness.

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contemplation of UNFCCC-level allocation options). From an economic perspective, allocation by aircraft nationality (i.e. to airlines registered in developed country) exacerbates the competitiveness issues outlined above. Analysis shows that there are potentially serious competitive distortions arising from imposing additional costs on one airline on a route and not the other, irrespective of whether the route is fully competitive or not. This applies even at relatively modest permit prices, for example $25-50/tonne. One option with support from the economic analysis - is to allocate emissions either on the basis of routes flown or on the basis of take-off and landing point. These do not present the same level of concern relating to competitiveness. But implementation would involve either: all airlines (i.e. including those from non-Annex I countries) taking on the same commitments on the whatever routes were selected for commitments (e.g. all flights to/from or between Annex I countries); or a restriction of routes covered to those on which airlines from non-Annex I countries did not fly (this would need to be confirmed, but would most probably be the vast majority of intra-Annex I flights. There has been some consideration of which sector(s) within the air transport industry should be the recipients of a commitment. Options include: airlines, manufacturers, fuel providers, and Air Traffic Control (ATC) providers. There appears to be a general presumption including within CAEP and at the IATA Stakeholder workshop in April 2001 - that airlines would be best positioned to receive commitments. Airlines are generally considered to have the greatest control over both technology deployment and aircraft operations. However, it is too early to exclude discussion of commitments on other industry sectors; even CAEP suggested that ICAO might provide guidance on how to engage airports, manufacturers and ATC. The most likely participants would seem to be fuel- and ATC-providers. In the first scenario, fuel providers would handle the emissions permits (either financing offset projects or buying/being allocated permits from the system authority), and would reprice their fuel accordingly; airlines would buy permit-paid fuel and would presumably need no further involvement in the emissions system. Such a system offers several advantages. It would probably be efficient to administer, centralising the emissions allowance system, rather than dispersing it among numerous players. Certain fuel providers are affiliated to entities (e.g. bp, Royal Dutch Shell) that are already leaders in the carbon market which might increase system efficiency. It might be less expensive overall for airlines, as there would be no need to develop the infrastructure, institutions and capabilities related to emissions trading. The system would probably benefit smaller airlines (e.g. charter operations) which might not have the purchasing power or infrastructure to compete on a global carbon market. It might also facilitate developing country participation; with developing countries perhaps being encouraged to make a certain proportion of their fuel requirements permit paid. However, this nature of commitment also has several disadvantages. It would appear to take the form of a levy (i.e. permit-paid fuel), a market-based approach on which the aviation industry (and ICAO) has well established views. It would be hard (if not counterproductive) to integrate permit-paid fuel (a commitment on fuel providers) with airline-level emissions trading. It could mean that airlines are subject to price risk on the permits which they would be unable to hedge until financial instruments were developed to manage this risk. If all fuel had to be purchased with permits it would reduce the opportunity for the airlines to make emissions reductions themselves which they may find are at a lower cost than those which they purchase. Finally, and inevitably, fuel providers would be very reluctant to assume the commitment themselves, perhaps arguing that they have no control over the actual demand for fuel.

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The second scenario envisages ATC providers taking some responsibility for the emissions liability associated with ATC delays and indirect routing; both contribute to increasing emissions relative to a direct A to B route an increase that is outside the control of airline operators (excess emissions). There are two potential ways to deal with this. First, airlines could, for example, be held responsible only for the emissions resulting from a direct route between two points regardless of the actual distance flown and actual tonnage of emissions. This approach is analogous to the system for air navigation charges. This would require standard emissions levels to be developed for each route, based on parameters such as distance, weight load and aircraft type. This would enable airlines to calculate their liability in advance but would reduce environmental integrity (as this system would not account for all emissions) and might limit market confidence (as the unit traded would bear no relation to the actual commodity). Second, Governments which frequently control ATC could allocate a stock of permits to ATC providers. ATC providers could then assume responsibility for excess emissions and agree service level agreements (or equivalents) which would ensure that airlines are recompensed for their excess emissions. As the ATC stock would be limited, this would provide financial incentives to reduce the delays. Eurocontrols Central Office for Delay Analysis currently attributes causes to delays and could potentially form the basis of a framework for a ATC commitment in Europe at least. A similar alternative would be for Governments themselves to assume responsibility for excess emissions related to indirect routings and other forms of inefficient airspace use due to aeropolitical reasons.
5.4

Permit distribution method

There is no clear choice for permit distribution. Both grandfathering and auctioning have their advantages. While some form of grandfathering would seem the more logical choice from a policy perspective, economic analysis58 shows a preference for auctioning. There are several potential mechanisms for enabling the participation of new entrants. Grandfathering forms the basis of most existing emissions trading schemes, principally because it 59 is premised on gratis allocation , and thus is more likely to win industry buy-in. Caps are based on historical data or present activity levels, so are equitable to participants and relatively efficient to administer. However, it is hard to integrate new entrants equitably (as they have no historic data on which to allocate). There is a potential for gaming (keeping emissions high to make it easier to reduce them), reducing the incentive for early action. Similarly, there is the potential for inefficient airlines to receive a generous allocation60. Free allocation of a greater number of permits than is necessary to achieve the objectives would possibly contravene state aid-regulations, e.g. under EU law, as it would effectively amount to a subsidy.

58

The economic analysis encompassed both economic efficiency (the extent to which economically efficient price signals are

maintained, and the extent to which fares reflect the full price of permits) and distributional effects (which result from differing allocation of funds among airlines, governments, consumers and other parties).
59

Free allocation of permits to existing carriers may have the potential to create distortions in less competitive market sectors

because of the potential use of grandfathered funds to deter entry, for example by the threat of predatory pricing. Conversely free allocation of permits to carriers facing competition on a route from those without obligations may mitigate competitive distortions.
60

A recent CAEP Working Group 5 paper suggests that this problem can be surmounted by grandfathering on the basis of a

production level: A. Sentance and H. Pulles (2001) Discussion paper on the initial allocation of permits at the beginning of each year: benchmarked allocation. Paper for CAEP WG 5 (market based options). CAEP 5/WG5 WP5-5/3.

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There are two types of grandfathering: allocation based on present levels of flight activity (e.g. RTKs) or fixed allocation according to historic levels of activity (e.g. based on 1990 emissions). The former could be linked to the schedule that airlines have filed for the coming year61. It would reduce incentives for abatement because it means that carriers do not pay the full cost of permits for additional activity. It may thus increase levels of activity above the optimal signalled by permits, although it is not clear how great this effect will be in practice. Allocation based on historic activity levels does not have the same effect of weakening incentives because changes in activity do not change the allocation of permits. Carriers thus bear the full cost of emissions from any additional activity. This is likely to be reflected in fares, which tend to include the full price of permits for all emissions from a flight. Consequently economic efficiency should not be reduced relative to the case where permits are auctioned, provided that the market for air transport is competitive, because the decisions of carriers in respect of which flights and fares to offer are unchanged from the case where permits are auctioned62. Were grandfathering based on historical data adopted, there should be careful consideration of the choice of baseline year. For a voluntary programme, it could be appropriate to select the most recent years for which reliable quality data were available (e.g. the three years to 2000 for the UK trading scheme). To implement a mandatory commitment, there may be greater benefit in selecting the same base year as for the commitment (e.g. 1990 in the case of the Kyoto Protocol first commitment period, or 1992 as used by IPCC63). Auctioning has advantages from an economic perspective, notably that it allocates permits on a non-discriminatory basis and the revenue raised could in theory be used, for example, to reduce taxes elsewhere or finance other climate change initiatives. It forces participants to focus on their actual needs and attaches a value to these needs (i.e. auctioning effectively sets the quantity and price of the commodity, as participants will seek to avoid overpaying or overbuying). An auction would enable equitable participation of all including new entrants. It would avoid the immediate need for data availability, quality and consistency in order to be grandfather allowances (an airline, however, would still benefit from forward estimating its RTK and CO2 emissions in order to determine its permit purchasing requirements). However, auctioning imposes an immediate cost on the entity which is likely to deter industry participation. This would be particularly true if the air transport industry were required to pay for permits which would be allocated free to other industrial sectors (particularly direct competitors, such as international road and rail transport). It could also pose intra-industry competitiveness issues, as the purchasing power of large entities may force small entities into non-compliance. Auctioning is also administratively complex requiring institutions to act as auctioneer and revenue holder/disburser. Auctioning raises revenues. This is consistent with the polluter pays principle, but does beg questions about how that revenue is utilised. If retained by Governments, it amounts to a tax. If recycled to the industry, it effectively becomes a revenue-neutral charge. Revenues could be substantial. Economic analysis suggests that with a permit price of $50/tCO2, auction revenues in 2010 could amount to some $17 billion pa.

61 62

A. Sentance and H. Pulles (2001), as above. Such a scheme could conceivably lead to windfall gains to carriers. They might receive increased revenue commensurate with

fares reflecting the full price of permits, without themselves being subject to this price for all of their permit requirements. These windfall gains could potentially be of the order of $15 billion p.a. with a $50/tonne CO2 permit price. However any gains may be absorbed, at least partially, in increased costs, e.g. because other participants in the value chains are able to appropriate the revenues.
63 IPCC (1999) IPCC special report: aviation and the global atmosphere summary for policymakers. Intergovernmental Panel on Climate Change.

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Suitable options for the recycling of revenues might include: Recycling for projects in the air transport sector (e.g. scrapping aircraft purchased more than 20 years before 201064); Reducing other environmental impacts (e.g. noise and NOx); Investing in fuel efficiency in the air transport sector (e.g. R&D into emissions-reducing technology); Funding improvements in ATC service provision; Funding environmental projects outside the air transport sector.

It is important to design the allocation method such that it enables the participation of new entrants on a fair and equally competitive basis. Permits cannot be grandfathered (in classic fashion) to new entrants, as they have no historical emissions levels on which to base an allowance. However, they could in theory be grandfathered on the basis of predicted future emissions (i.e. activity levels apparent in schedule filed for the forthcoming year). Conversely the adoption of a performance standard approach to grandfathering could facilitate new entrant participation (see section 5.2). One option would not be appropriate, namely to require new entrants to purchase emissions allowances (e.g. through an auction) if existing participants were grandfathered allowances for free. This would likely contravene trade law regulations, including EU law. For a country to be in a position to have sufficient emissions allowances to allocate to new entrants, it will have to have managed its national carbon budget to not allocating the entirety of its emissions allowances at the outset, instead retaining a bank of allowances. In a rapidly growing and diversifying industry such as international aviation (witness the rapid recent growth of the number of low cost short-haul airlines), there is considerable benefit for Governments to retain a credit reserve to serve both as a source for new entrants and a buffer to cover unforeseen eventualities. The level of this credit reserve would require careful determination, but could be combined with either grandfathering or auctioning. One option would be to grandfather the majority of permits, but retain a credit reserve for new entrants and perhaps for ATC (see section 4.3), and to auction for over-emitters (this sending a price signal, promoting liquidity, and raising revenue).
5.5

Coverage of gases

Emissions trading schemes generally target specific gases, or groups of gases, for reduction. For aviation, three broad options can be considered: Restriction to CO2, as the only direct greenhouse gas (GHG) emission from aircraft about which there is a sufficient degree of certainty about the impact; Inclusion of the Kyoto basket of 6 GHGs, although only one of these (CO2) is emitted by aircraft; or Inclusion of all GHGs emitted by aircraft (CO2, NOX, H2O) whether listed in the Kyoto Protocol or not, and whether direct or indirect

To date, emissions trading schemes developing under the Kyoto Protocol are tending to be restricted to CO2, in the short term at least. In part this is due to simplicity, in part due to residual

64

Estimated by FESG to cost $1 billion: FESG (2001) Economic analysis of potential market-based options for reduction of CO2 emissions from aviation. Document CAEP/5-WP/24.

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difficulty in measuring and verifying GHGs other than CO2. The latter is even more true for aviation emissions of NOx and water vapour for which there are considerable scientific uncertainties about their global warming potential (GWP) and which are Parties to the Kyoto Protocol would not otherwise be required to limit (as they are not listed in Annex A of the Kyoto Protocol). Without a GWP, it will be impossible to convert emissions reductions of such gases into CO2-equivalent (the established unit of exchange within the GHG emissions trading framework), and thus impossible to trade freely through the Kyoto mechanisms. These provide a strong rationale for restricting an aviation emissions trading commitment (and thus trading) to CO2, in the short term at least. CAEP, authorities who have proposed aviation emissions trading schemes, and stakeholders at IATAs stakeholder workshop concur on this point. However, there is also general recognition that other gases could be added at a later date when their impact was more widely understood and dependable measurement techniques had been developed. Once GWPs have been determined for other aviation GHGs, they too could be subject to emission commitments, and available for trading purposes. This may be particularly appropriate given that a scheme limited to a gas (CO2) that forms just 37% of aviation GHGs65 is somewhat limited in environmental effectiveness. Moreover, it would give the aviation industry access the potential flexibilities of a multi-gas system (e.g. the opportunity to balance an increase in NOx emissions with reductions in CO2, or vice versa).
5.6

Liability rules

To instil confidence in the market, participants prefer to understand their liability with regards to credits purchased from another participant who subsequently defaults on the terms of the scheme. In general, individual emissions trading schemes have seen industry support for seller liability. Seller liability is generally accepted as being the most feasible and cost-effective liability regime, and has been adopted in most emerging and existing emissions trading schemes. Participants at the IATA stakeholder workshop also favoured seller liability from an aviation perspective, although they were aware that neither CAEP nor any other commentators had addressed the issue. A system of seller liability would probably be of most benefit to the aviation industry, as a likely net buyer of emissions. It would also facilitate compatibility with the wider carbon market.
5.7

Monitoring, verification and reporting

Unless participants emissions are monitored and verified in a way that is accurate, standardised and universally accepted, the environmental and market credentials of the trading scheme will not be secure. It would be in the best interests of the aviation industry to adopt an internationally accepted monitoring, verification and reporting protocol, such as the developing WRI/WBCSD GHG Protocol, and complement this with aviation-specific requirements. The standards could be applied by independent verifiers, accredited as such by relevant national emissions trading schemes or for relevant international mechanisms (i.e. Joint Implementation and the Clean Development Mechanism), providing they could demonstrate proficiency with the aviation-specific requirements. This path would increase market confidence in the validity of emissions reductions from the aviation sector and enable compatibility within the wider carbon market. It would also have the additional advantage of being carefully tailored so as to be compatible with emerging UNFCCC provisions (thus facilitating access to credits and allowances from the Kyoto Protocol). Use of an existing standard would be more cost-effective than the development of a new protocol, although

65

D. Lee and R. Sausen (2000) New directions: assessing the real impact of CO2 emissions trading by the aviation industry.

Atmospheric Environment 34: 5337-5338.

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it may be need to be supplemented with specific provisions relating to the aviation industry. It would also allow airlines to manage their domestic and international emissions within the same framework, which would presumably be cheaper and easier than managing them under different protocols.
5.8

Institutional implications

Whoever establishes the scheme, and however it is established, a variety of institutional forms are needed to facilitate and regulate the market. These include a body (or bodies) to: monitor and report emissions; act as a trading platform/exchange; provide a registry; regulate the scheme and penalise non-compliance. To date, institutional issues have been relatively sidelined in discussions on aviation emissions trading. Yet they represent a significant cost, and require suitable infrastructure and knowledge. If a mandatory commitment is imposed through the UNFCCC (e.g. international aviation emissions become integrated into Parties assigned amounts from the second commitment period), then international aviation will become a player in the Kyoto mechanisms like any other sector. The industry would be able to use the institutions that would be developed anyway both nationally and internationally - to facilitate international emissions trading. In this scenario, there would be no need for the industry (e.g. through ICAO) to develop specific infrastructure or institutions. Such aviation-specific institutions would incur significant costs, yet bring no added value. If, however, it should be decided that industry specific compliance provisions are required, ICAO, as the body responsible for setting international standards and recommended practices for aviation, would be in a good position to take responsibility for their management. But such an approach will not suffice for a short-term voluntary scheme or a mid-term mandatory scheme wholly under the ICAO banner. In these scenarios, ICAO and other industry bodies will need to establish their own infrastructure. In the first scenario (which envisages transition to a mandatory arrangement under the UNFCCC), the institutions will have a short shelf life so costs should be minimised. The key new institutions required will be: a registry to track movement of allowances between participants accounts; a pseudo regulatory body (emissions trading authority) to allocate allowances, assimilate the emissions totals reported by participants, and penalise non-compliance (see section 5.11). In a voluntary airline-based initiative, IATA could conceivably perform these functions but should not underestimate the costs involved. In a wider voluntary initiative, there could be call for ICAO to do so. Emissions could be verified by accredited verifiers (e.g. those accredited to verify national trading schemes or CDM/JI activities) without needing to establish a separate accreditation process. In the second scenario, institutions would have a longer shelf life, and may merit greater investment. However, the industry would need to weigh up these considerable additional costs against the uncertain additional benefit that an industry-specific scheme might bring. Where possible, and where permitted (if ICAO goes its own way, it may not be allowed access to Kyoto mechanisms credits, allowances or infrastructures), there may still be advantages in piggybacking onto institutions that are developed for the wider carbon market (e.g. using the same, or very similar, trading platform).
5.9

Banking protocol

Participants in a trading scheme may in principle save or bank unused or excess emissions allowances or credits from one commitment period for use in a subsequent commitment period. A trading system may elect to: have full banking (i.e. no restrictions); have limited banking (i.e. a
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quantitative ceiling on the number of permits that may be banked, or a qualitative restriction on the types of permits that may be banked); or prohibit banking (i.e. surplus allowances are retired from the system). The basic decision to weigh up is the flexibility and incentive for early action provided by banking versus its potential for hoarding which can led to market price distortions. No authorities have yet commented on options for banking within an aviation emissions trading scheme. If a mandatory commitment is imposed through the UNFCCC (e.g. international aviation emissions become integrated into Parties assigned amounts from the second commitment period), then international aviation will become a player in the Kyoto mechanisms like any other sector. The industry will thus be subject to the same banking provisions at the international level which are likely to be reflected at the national level, where compliance will be assessed. In either a voluntary scheme (which could eventually lead into the above UNFCCC scheme) or a permanent ICAO-managed scheme, the industry may develop its own banking provisions. The industry would benefit from weighing up the advantages of full, unlimited banking (flexibility on timing of emission reductions; making the most of early cheap abatement opportunities) against its disadvantages (could promote hoarding of early, cheap emission reductions and thus reduce market liquidity as demonstrated by the SO2 market in the US). Unlimited banking is likely to be preferable, particularly in the early stages. It is the most costeffective solution, offering entities flexibility in the timing of emission reductions, and allowing them to take advantage of earlier (and likely cheaper) abatement opportunities. Moreover, unlimited banking is likely to be the norm in the UNFCCC world thus facilitating parity and (potential) transition between the systems. It is unlikely that the aviation emissions market presuming it is open to flows of credits and allowances from outside (see section 5.1) would be stifled by hoarding; to date, this seems to occur only in small schemes such as for US SO2. Were hoarding to occur, the system management body (emissions trading authority) could consider the case for some form of self-imposed limitation on the percentage of allowances that may be banked.
5.10

The permit or unit of exchange

CO2-equivalent is the most widely recognised permit denomination, and has been generally adopted in emerging and existing schemes. Use of this unit within an aviation emissions trading scheme seems sensible from the perspectives of both commodity trading and compliance. First, it would therefore enable compatibility with the wider carbon market; there are evident efficiencies in having a single currency for the entire emissions trading system. Second, it would also provide flexibility for incorporation of other aviation greenhouse gases in the future, through their conversion to CO2-equivalents once Global Warming Potentials would have been developed. Third, international trades will require Government recognition of allowances from other jurisdictions suggesting that Governments might not accept a unit of exchange other than that agreed internationally. So an entity might risk non-compliance if it sought to achieve compliance using units (e.g. from ineligible activities, gases, non-GHG trading schemes) that were not acceptable to the relevant jurisdiction.
5.11

Trading rules

All trading systems require clearly defined rules of conduct for its participants to abide by. If a mandatory commitment were imposed through the UNFCCC, then international aviation would become a player in the Kyoto mechanisms like any other sector. The industry would be subject to international trading rules and those specific to relevant jurisdictions (e.g. EU and national schemes).

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In either a voluntary scheme or a permanent ICAO-managed scheme, the industry may develop its own trading rules. In either scenario, it is not worth rushing ahead into developing rules. The most appropriate course of action should become clearer once certain fundamental decisions have been made (e.g. the relationship to the Kyoto mechanisms; the similarity of monitoring, verification and reporting provisions to those under the UNFCCC). In the former case, there could be considerable advantage in ensuring that these are compatible with relevant UNFCCC provisions (and regional/national derivations thereof). In the second scenario, the industry would have greater freedom. However, developing detailed rules is a complex, lengthy and costly process. There may be merit in learning from the experience of Kyoto Protocol-derived schemes.
5.12

Penalties for non-compliance

If a mandatory commitment is imposed through the UNFCCC and orchestrated through national Governments, international aviation would be subject to whatever non-compliance provisions are agreed for all trading scheme participants in each jurisdiction. Participants in a trading scheme could then expect to be penalised if they breach the schemes rules, or default on their commitments. In either a voluntary scheme or a permanent ICAO-managed scheme, the industry may develop its own system of penalties. In the second scenario, penalties should be sufficiently rigorous to ensure that they substantially exceed the benefits of non-compliance. Weak penalties and/or lax enforcement would reward free-riders at the expense of entities that comply with their obligations raising relative compliance costs for the latter and creating competitiveness distortions. Suitable options include: financial penalties (a standard fine per tonne of emissions in excess of the number of allowances held as the year-end); forfeiture of future allowances at a higher ratio; and exclusion from trading for a predetermined duration. Given potential competitiveness issues with other international transport modes, there would be benefits in making the nature and level of penalties compatible with those faced by those competitors. In a voluntary scheme where participants are accepting to incur abatement costs that they would not otherwise face penalties should be very modest or even absent. The aim should be to promote participation, rather than punish non-compliance. Direct financial penalties would be inappropriate. Suspension from the trading scheme would be counterproductive to the goal of encouraging participation. Forfeiture of allowances at a ration slightly higher than 1:1 would perhaps be more suitable, as would the withdrawal of any incentives.
5.13

Incentives

In theory, companies may benefit from financial or other incentives to engage in often unfamiliar emissions trading schemes where participation is not mandatory or where alternative methods of compliance are available. Judging by available evidence, however, external financial incentives appear to be having minimal impact in encouraging participation (e.g. the UK, where a total incentive of 215m over five years has not yet enticed any confirmed participants). Given the likely high abatement costs, any financial incentive for a voluntary aviation emissions trading scheme would probably have to be extremely high if it were to elicit participation from entities who would not otherwise be interested. More important appears to be the possible impact of strategic, reputational, or operational incentives on potential participants performance and shareholder value.

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Appendix 1: Analysing emissions trading schemes

Design Elements of an Emissions Trading Scheme

Primary Design Elements Integration of scheme This refers to the extent to which participants within a scheme have access to emission reduction opportunities from outside it. In a closed scheme permits are created by, distributed to, and traded between the scheme members alone. In an open scheme, permits can be obtained from emission reductions projects external to the scheme to be used to offset emissions of those participants within the scheme. In an intermediate scheme, there could be some limitation on the quantity or type of permits that may be purchased from outside the scheme. Type of scheme This refers to the basic model of the trading scheme. The implicit model of the allocation of permits to emit GHGs, to (Annex B) countries under the Kyoto Protocol, is one of trading beneath an absolute maximum level (cap and trade). Under a cap and trade scheme, the total emissions levels for a jurisdiction (e.g. country or industry sector) are distributed as absolute amounts of permitted emissions for each participant. Baseline and Credit is an alternative model, in which emission baselines are determined for all participants on the basis of a business as usual scenario. Trading can occur to the extent that participants deviate from that baseline. i.e. credits accrue when participants emit less than their baseline, and are in deficit when participants emit above their baseline. Cap, Credit and Trade is a hybrid of the two models above. Certain participants are capped, but additional supply is achieved through other participants adopting a baseline and credit approach. Performance standard or unit approach is where the efficiency target is expressed as a number per unit of output (e.g. tCO2 per passenger-km), and absolute emissions can grow provided the relative efficiency has kept within limits. Performance standards can be used as part of the allocation rule for cap and trade or to define the baseline for baseline and credit. Extent of scheme This refers to the spatial or sectoral distribution of a schemes participants and/or the activities covered. It affects: the activities for which emissions must be reduced or otherwise offset (and thus require permits); the sectors (e.g. airlines, manufacturers or fuel suppliers); the participants in trading (e.g. only those with emission reduction commitments or others as well); the countries involved (e.g. developed countries only). Permit distribution mechanism The permit distribution mechanism is the method used to allocate allowances to participants of the scheme. It is usually used with a cap and trade scheme, although the principles could be applied to other types of scheme. The two main methods of permit distribution are grandfathering, whereby permits to emit are allocated in proportion to a baseline reflecting emissions at a previously agreed point in time, or auctioning, in which participants are

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required to bid for allowances. A hybrid of these two mechanisms may be chosen, e.g. with a permit reserve held back for excess emitters, new entrants or as a buffer. Less frequently considered options are a lottery whereby slots are allocated, and tendering. Secondary design elements Coverage of gases This design element states which gases are covered by the scheme. Schemes generally target specific gases, or groups of gases for reduction. Liability rules The issue of liability is concerned with responsibility for the accuracy and validity of emissions reductions associated with a particular allowance. To instil confidence in the market, participants must understand their liability with regards to credits purchased from other participants who subsequently default on the terms of the scheme. The two options for design generally considered are buyer liability and seller liability. Monitoring, verification and reporting In order to ensure the environmental credibility of the scheme, and to enable participants to be assured of the validity of credits purchased within the scheme, there needs to be a standard and accepted method of monitoring, verification and reporting emissions. To assess the overall environmental impact of a trading scheme, combined results of emission reductions and transactions should be accurately reported. Institutional implications A variety of institutional forms are required to facilitate and regulate the market, and in particular to monitor and report the emissions of the participants, to monitor and report the allocation and trade in permits between participants, and to regulate the scheme and penalise non-compliance. Banking protocol This refers to the saving or banking of excess emission allowances or credits from one period to use in a subsequent period. The system authority may place restrictions on banking. Borrowing is the opposite of banking (i.e. the utilisation of allowances from a subsequent commitment period). The permit or unit of exchange The permit is the unit of exchange. It is a financial instrument that has value, fundamentally, in its nature as a compliance tool. Differing units of exchange in different jurisdictions will have implications for cross-border trading. Different legal definitions in different jurisdictions may have implications for tax treatment, regulation and audit treatment. These may impact cross-border trades. Trading rules All trading systems require clearly defined rules of conduct for its participants to abide by. These typically detail the nature and behaviour of the commodity being traded, the entities to whom the scheme is open, penalties for non-compliance, levy issues (e.g. akin to adaptation levy under the Clean Development Mechanism), and registry/reporting issues. The key decision to be made is whether or not these rules are designed to be compatible with the emerging rules for international trading. Penalties for non-compliance It is important that the rules of any emissions trading scheme be enforced in order to ensure that the scheme is equitable to all participants and achieves its objectives. Options of

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enforcement methods differ widely in their ease of implementation and their degree of strictness. Incentives An incentive to trade needs to exist to ensure maximum liquidity, and thus economic efficiency within the trading market. In a mandatory scheme incentive comes through the desire to avoid penalties and also to optimise financial performance through trading. In a voluntary scheme, or where alternative methods of compliance are available, companies should benefit from another form of incentive (financial or otherwise) in order to encourage participants to join the scheme and to stimulate trading. Critical Success Factors of an Emissions Trading Scheme (from chapter 2) Environmental effectiveness Environmental effectiveness relates to the contribution of the scheme to the slowing of climate change. This factor determines whether the environmental goals will be achieved and with what degree of certainty. Economic efficiency Emissions trading schemes seek to achieve the greatest possible reduction in emissions for the lowest possible financial abatement cost, by providing flexibility and motivation for reductions to occur where they are least expensive. This is important for the air transport industry, which seeks to protect its ability to continue to grow. Equity and competitiveness Trading schemes can potentially have differential impacts on different sources (in this context, both on companies and countries). It is important to evaluate the scale of the costs imposed on key affected parties, in order to manage the possible issues of equity and competition. Legal feasibility It is important to address legal issues relevant to international, regional and national legal frameworks under which any emissions trading scheme would be implemented. It is important to evaluate whether the options are compatible with (among others) the Chicago Convention, bilateral Air Service Agreements, WTO trade/environment rules, specific regional rules (e.g. EU competition laws) and the emerging Kyoto trading rules. Technical and administrative feasibility Technical feasibility comprises the suitability, compatibility, user-friendliness and the ease of implementation of IT systems. Administrative feasibility concerns the need for new institutions, and implications for levels of bureaucracy. The technical and administrative feasibility of the scheme directly impacts upon transaction costs, and would therefore affect participation in an emissions trading scheme. Industry acceptance and participation Stakeholder engagement in a participatory process is fundamental to minimising conflict, establishing trade-offs acceptable to industry, and gaining support from key players including potential participants. Maximum participation promotes market liquidity and is important to the success of an emissions trading scheme. Political acceptance To succeed, the scheme must gain political support at both a national and regional level. Political support relates to Government, non-Governmental Organisation (NGO) and international levels (e.g. UNFCCC).

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Accepted science and measurement methodologies For trade to occur, the market must have confidence in the value of the commodity being traded. This requires rigorous and standardised definition of a permit, and accepted verification of its environmental credentials Compatibility with voluntary initiatives and other market-based options A number of nascent voluntary and market-based initiatives are in place as industries and governments prepare for ratification of the Kyoto Protocol. In the design of a civil aviation emissions trading scheme, interaction with these other initiatives should be considered, and action that may reduce or remove compatibility with, and accessibility to, these other regimes (inescapable traps) should be avoided. Wider environmental implications It is important to consider at what cost a trading scheme is implemented - whether there are any trade-offs with other objectives (e.g. reducing local noise and NOX emissions), and possible means of mitigating any adverse repercussions.

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Appendix 2 Selected bibliography

Airport Council International (1998) Keynote speech on aviation policy in Europe. Anon (2001) Mechanisms pursuant to Articles 6, 12 and 17 of the Kyoto Protocol. Non-paper by the Co-Chairmen. Anon (2001) Aviation emissions: fix the celestial loophole. Climate Action Network newsletter Eco volume CVI, issue 9, circulated at COP6 bis, Bonn, July 2001. Arthur Andersen (2001) Designing an emissions trading scheme for aviation: background report, June 2001. Report for the International Air Transport Association. ATAG (2000) Resolution on Sustainable Aviation. Air Transport Action Group. ATAG (2000), The Economic Benefits of Air Transport. Air Transport Action Group. Babra, P (undated) Limiting Civil Aviation Emissions. British Airways report Baron, R. (2000) Emissions trading: a real time simulation. International Energy Agency. Benkovic, S. (1999) Evolution of the US SO2 Emissions Trading Program and Results to Date. US Environment Protection Agency. Bleijenberg, A.N. and Wit, R.C.N. (1998) A European environmental aviation charge - feasibility study. Delft Centre for Energy Conservation and Environmental Technology. Bohi, D. (1997) SO2 Allowance Trading: How Experience and Expectations Measure Up. Resources for the Future. Bohm, P. (1995) An analytical approach to evaluating the national net costs of a global system of tradeable carbon emission entitlements (with reference to different country groups). UNCTAD: Geneva. Boone, C. and Dewelles, T. (2000) Ontario Power trading at home and away. Environmental Finance July-August 2000. BP Amoco (1999) Greenhouse Gas Emissions Trading in BP Amoco Brack, D., Grubb, M. and Windram, C. (1999) International trade and climate change policies. Royal Institute for International Affairs/Earthscan publications. Brockhagen, D (1999) Current Knowledge on Economic Instruments to Mitigate Environmental Pollution of Civil Aviation. Commissioned by the Federal Environmental Agency of Germany. Report for ICAO, CAEP/5. Burtraw, D. (2000) Innovation under the tradable sulfur dioxide emission permits program in the U.S. electricity sector. Resources for the Future Discussion Paper 00-38; Washington DC. Calder, F. and Hough, C. (2001), Potential interactions between new emissions trading related policies. Minimising conflicts, maximising synergies and maximising consistent valuation of carbon savings. Report by ESD for DETR. Carlson, C., Burtraw, D., Maureen, C. and Palmer, K. (2000). SO2 control by electric utilities: what are the gains from trade? Resources for the Future Discussion Paper 98-44-REV; Washington DC. CCAP (1999) Design of a Practical Approach to GHG Emissions Trading Combined with Policies and Measures in the EC, Centre for Clean Air Policy Cincar, C. (1999) PERT Emissions Trading System Implementation Options, Workshop Draft. Energy Policy Branch.

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Cosbey, A. (2000) The Kyoto Protocol and the WTO: seminar note. Royal Institute for International Affairs/International Institute for Sustainable Development. Crampton, P. and Kerr, S. (1998) Tradable carbon allowance auctions: how and why to auction. Centre for Clean Air Policy. CSD (2001) Decision 9/3: Transport. Commission on Sustainable Development CSD (2001) Decision 9/2: Protection of the Atmosphere. Commission on Sustainable Development DEFRA (2001) Framework for the UK Emissions Trading Scheme. Department of Environment, Food and Rural Affairs; London. DeMarco, E. (2001) Ontario sets out emissions trading plans. Environmental Finance May 2001: 2223. DETR (2000) Climate change: the UK programme. Department of the Environment Transport and the Regions DETR (2000) The future of aviation; the Governments consultation document on air transport policy. Department of the Environment Transport and the Regions DETR (2000) Valuing the external costs of aviation. Department of the Environment Transport and the Regions DETR (2000) A Greenhouse Gas Emissions Trading Scheme for the United Kingdom, Consultation Document. Department of the Environment, Transport and the Regions: London. DETR (2000) UK Climate Change Strategy. DETR (2001) A greenhouse gas emissions trading scheme for the United Kingdom: a summary of responses to the consultation document. Department of Environment, Transport and the Regions; London. DETR (2001) Draft framework document for a UK emissions trading scheme. Department of the Environment, Transport and the Regions: London. Det Norske Veritas (1999) Methods used to collect data, estimate and report emissions from international bunker fuels. Draft report prepared for the UNFCCC Secretariat, 12 May 1999. Dimitri van de Pol, Y.D. (1998) The Myths of Flying - Putting aviations economic benefits into perspective. FoE Netherlands Dings, J. M. W., Dijkstra, W. J. and Wit, R. C. N. (1997) European aviation emissions: trends and attainable reductions. Report of background study: Centre for Energy Conservation and Environmental Technology. Dobbie, L. (2000) Air transport a global approach to sustainability. Sustainable Development International. Environmental Law Institute (1997) Implementing an emissions cap and allowance trading system for greenhouse gases: lessons from the acid rain program. Environmental Law Institute. European Commission (1999) Air transport and the environment towards meeting the challenges of sustainable development. Communication from the Commission to the Council, the European th Parliament and ECOSOC, 30 November. Con (1999) 640. 30 November 1999. European Court of Justice: Braathens v Riksskatteverket, Case C-346-97. European Commission (2000) Green paper on GHG emissions trading within the European Union European Commission (2000) Communication from the Commission on EU policies and measures to reduce greenhouse gas emissions: Towards a European Climate Change Programme (ECCP). COM (2000)88 European Commission (2000) European Climate Change Programme, Progress Report November 2000. On internet at http://europa.eu.int/comm/environment/climat/eccp.htm

European Commission (2001) European Climate Change Programme Report June 2001.

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European Union (2000) Environment Council Conclusions, 10 October 2001 European Union (2001) Communication from the Commission to the Council, the European Parliament, the Economic and Social Committee, and the Committee of the Regions, 24 January 2001 (COM(2001) 31 final). European Commission (2001) Proposal for a Directive of the European Parliament and of the Council establishing a framework for greenhouse gas emissions trading within the European Community. Brussels, 31 May 2001.

European Environment Agency (2001) Indicators tracking transport and environment integration in the European Union. European Environment Agency.
Falk, R. S. and Leech, M. V. (1998) ANCAT/EC2 global 3-D emissions inventory forecast of fuel consumption and emissions from civil aircraft in 2015. Department of Trade and Industry Report; London. Gander, S. and N. Helme (1999), Emissions Trading is an Effective, Proven Policy Tool for Solving Air Pollution Problems. ICAO Journal, Volume 54(7). Goulder, L. H., Parry, I. W. H. and Burtraw, D. (1997) Revenue-raising versus other approaches to environmental protection: the critical significance of pre-existing tax distortions. RAND Journal of Economics 28(4): 708-731. Grubb, M. (1999) The Kyoto Protocol: a guide and assessment, London: RIIA/Earthscan, Washington: Brookings.

Grtter, J. (2001) World market for GHG emissions reductions. Prepared for the World Bank.
Hahn R.W. (1984) Market Power and Transferable Property rights. Quarterly Journal of Economics 99(4): 753-65. Haites, E. (2000) NOx and SOx Emissions Trading in Ontario. Environmental Finance September 2000. Hasselknippe, H. and H ibye, G. (2000) Meeting the Kyoto Protocol commitments. Summary domestic emissions trading schemes. Confederation of Norwegian Business and Industry. Hewett, C. and J. Foley (2000), Plane Trading: policies for reducing the climate change effects of international aviation. Institute for Public Policy Research. Houghton, J.T., L.G. Meira Filho, B. Lim, K. Treanton, I. Mamaty, Y. Bonduki, D.J. Griggs and B.A. Callender, eds (1996) Revised 1996 IPCC Guidelines for National Greenhouse Gas Inventories. Intergovernmental Panel on Climate Change. Hupe, J (1998) CAEP May be a Turning Point in ICAOs Work in Environmental Protection in the ICAO Journal, Volume 53, Number 6. IATA (2000) Environmental Review 2000. Montreal and Geneva: IATA. IATA and ICCAIA (2001) Noise and emissions trade-off considerations. Paper for the ICAO th Committee on Aviation Environmental Protection, 5 meeting. Document CAEP/5-WP/32. ICAO (undated), Operational Opportunities to Minimise Fuel Use & Reduce Emissions, International Civil Aviation Authority circular. ICAO (1996) ICAO Council Resolution December 1996: Council resolution on environmental charges and taxes. Attachment to State Letter AN 1/17.9-97/62. ICAO (1999) Statement from the ICAO to the 10 Session of the UNFCCC Subsidiary Body for Scientific and Technological Advice (SBSTA) ICAO (2000) Convention on International Civil Aviation [Chicago Convention]. 8 edition. ICAO (2000) The world of civil aviation 1996-1999. International Civil Aviation Organisation. ICAO (2001) Outlook to the year 2005. International Civil Aviation Authority
th th

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ICAO (2001) Outlook to the year 2005, International Civil Aviation Organisation. ICAO (2001) Agenda item 14: environmental protection. Updating of resolution A32-8: consolidated statement of continuing ICAO policies and practices related to environmental protection. Document rd A33-WP/43, for consideration by the ICAO Assembly 33 session, September 2001. ICAO CAEP (2001) Historical: CAEP action plan on aircraft engine emissions. Committee on Aviation Environmental Protection, Fifth Meeting. Document CAEP/-WP/86, Appendix B to the Report on Agenda item 2. ICAO CAEP Forecasting and Economic Support Group (2001) Economic analysis of potential marketbased options for reduction of CO2 emissions from aviation. Committee on Aviation Environmental Protection, Fifth Meeting. Document CAEP/5-IP/9. ICAO CAEP Forecasting and Economic Support Group (2001) Overview on economic analysis of potential market-based options for reduction of CO2 emissions from aviation, Committee on Aviation Environmental Protection, Fifth Meeting. Document CAEP/5-WP/24. ICAO CAEP Working Group 5 (2001) Market-based measures: report from Working Group 5 to the fifth meeting of the Committee on Aviation Environmental Protection. Document CAEP/5-IP/22. ICAO CAEP Working Group 5 Overview from working group 5 on development of market-based measures to limit or reduce emissions from civil aviation. CAEP/5-WP/16 (2001) ICAO CAEP/5 (2001) Historical. Document CAEP/5 WP/86, Appendix B to the Report on Agenda Item 2, 2B-1 IEA (1998) CO2 emissions from fuel combustion. OECD/IEA: Paris. IPCC (1999) IPCC special report: aviation and the global atmosphere summary for policymakers. Intergovernmental Panel on Climate Change. IPCC (2001) Third Assessment report. Working Group 3 Report. Mitigation, Summary for policy makers. Intergovernmental Panel on Climate Change. IPCC (2001) Climate change 2001, the scientific basis. Contribution of Working Group I to the Third Assessment Report of the Intergovernmental Panel on Climate Change. Cambridge University Press; Cambridge, U.K. IPCC (2001) Climate change 2001: impacts, adaptation and vulnerability. A report of Working Group II of the Intergovernmental Panel on Climate Change. Johnson, T. (2001) Trends in aviation. Presented at The Ashden Trust Aviation and the Environment seminar on 1 and 2 March 2001. Kruger, J. A. and Dean, M. (1997) Looking back on SO2 trading: whats good for the environment is good for the market. Public Utilities Fortnightly 135(August). Kruger, J. A., McLean, B. J. and Chen, R. (2000) A tale of two revolutions: administration of the SO2 trading program. Pp. 115-130 in R. F. Kosobud, ed. Emissions Trading. New York: John Wiley & Sons, Inc.; New York. Lee, D. and R. Sausen (2000) New Directions: assessing the real impact of CO2 emission trading by the aviation industry. Atmospheric Environment 34: 5337-5338. Lile, R. (1996) An Assessment of the EPAs SO2 Emission Allowance Tracking System. Resources for the Future. Lyle, J. (2000) Air Transport in the 21 Century. International Civil Aviation Organisation. Maffeo, D. Brief Legal Summary on the Subject of Liability for Noise Pollution, ACI Europe Michaelis, L (1997) Special Issues in Carbon/Energy Taxation: Carbon Charges on Aviation Fuels. Working Paper 12, Annex 1 Expert Group on the UNFCCC, OECD, Paris Milliman, S. R. and Prince, R. (1990) Firm incentives to promote technological change in pollution control. Journal of Environmental Economics and Management 17: 247-265.
st

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Ministry of the Environment and Energy (2000) Climate 2012: status and perspectives for Denmarks climate policy. Danish Government: Copenhagen. Misiolek, W. S. and Elder, H. W. (1989) Exclusionary manipulation of markets for pollution rights. Journal of Environmental Economics Management 16: 156-66. Montgomery, W. (1972) Markets in licenses and efficient pollution control programmes. Journal of Economic Theory 5: 395-418. Muddle, R. (2000) Aircraft permits will cap carbon. Green Futures: March/April 2000. Mller, A. Michaelowa and C. Vrolijk (2001) Rejecting Kyoto: a study of proposed alternatives to the Kyoto Protocol. Climate Strategies, July 2001 (pre-publication copy for general distribution). Mullins, F. (2001) Bidding for reductions. Environmental Finance May 2001: 21. Nicholls, M. (2000) Why Kyoto Counts. Environmental Finance October 2000 OECD (2000) Environmentally Sustainable Transport Guidelines. Organisation for Economic Cooperation and Development. OECD (2001) An environmental outlook for the 21 century. Organisation for Economic Cooperation and Development. Oppenheimer, M. and A. Vendatham (1994) Aircraft emissions and the global atmosphere. Long term scenarios. Environmental Defense Fund: New York. Oxford Economic Forecasting (1999) The Contribution of the Aviation Industry to the UK Economy. Oxford. Pronk, J. (2001) New proposals by the President of CoP6, 9 April 2001; on internet at http://www.unfccc.int/sessions/cop6_2/unfccc_np.pdf. RLD (2000) Aviation emissions and evaluation of reduction options (AERO), Main report, part 1: description of AERO Modelling System. Sentance, A. (1999) Targets and permits (TAP) a proposed scheme for controlling aviation emissions. Unpublished report for British Airways. Sentance, A. (2000) Aviation and the environment: Can we achieve sustainable growth? British Airways paper. Sentance, A. and H. Pulles (2001) Discussion paper on the initial allocation of permits at the beginning of each year: benchmarked allocation. Paper for CAEP WG 5 (market based options). CAEP 5/WG5 WP5-5/3. Sledsen ,T. (1998) The need for a European Aviation Charge. Transport and the Environment. Stavins, R. N. (1998) What can we learn from the grand policy experiment? Lessons from SO2 allowance trading. Journal of Environmental Perspectives 12(3): 69-88. Stewart, R. B., Sands, P. and Wiener, J. B. (1999) The legal and institutional framework for a plurilateral greenhouse gas emissions trading system. Sweden et al. (2001) Market-based measures: proposal for a council communication to UNFCCC and for further work on emissions levies. Paper presented to CAEP/5 by members from Sweden, the Netherlands, Norway, the UK and the EC CAEP/5-WP/58, Tietenberg, T. (1984) Marketable emission permits in principle and in practice. Washington DC, Resources for the future. Tietenberg, T. (1985) Emission Trading: An exercise in Reforming Pollution Policy. Washington DC: Resources for the future Tietenberg, T., Grubb, M., Michaelowa, A., Swift, B. and Xiang Zhang, Z. (1999) International rules for greenhouse gas emissions trading. UNCTAD: New York and Geneva. Tsai, A. Pei-Jan and A. Petsonk (2000) Tracking the Skies: an airline-based system for limiting GHG emissions from international civil aviation. The Environmental Lawyer 6: 762-806.
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T&E (1999) Clear Skies - The need for a European aviation charge as a measure towards sustainable aviation. Pamphlet. UNCTAD (1997) A pilot greenhouse gas trading system: legal issues. UNCTAD. UNFCCC (1996) Methodological issues: emissions resulting from fuel used for international transportation. Note by the Secretariat. Documents FCCC/SBSTA/1996/9/Add.1 and Add.2. UNFCCC (1996) National communications: Addendum, Detailed information on electricity trade and international bunker fuels. Note by the secretariat. Document FCCC/SBSTA/1996/9/Add.2. UNFCCC (1997) The Kyoto Protocol. United Framework Convention on Climate Change. UNFCCC (1997) Report of the Conference of the Parties on its Third Session, held at Kyoto from 1 to 11 December 1997. Document UNFCCC/CP/1997/7/Add.1. UNFCCC (1996) Methodological issues: emissions resulting from fuel used for international transportation. Note by the Secretariat. Documents FCCC/SBSTA/1996/9/Add.1 and Add.2; UNFCCC (1999) Methodological issues: emissions resulting from fuel used for international transportation. Note by the Secretariat. Submissions by Parties to the UNFCC. Document FCCC/SBSTA/1999/MISC.8 UNFCCC SBSTA (1999) Views on the IPCC Special Report on Aviation and the Global Atmosphere. (Assimilation of Parties views presented to UNFCCC Subsidiary Body for Scientific and Technological Advice) UNFCCC (1999) Report of the Subsidiary Body for Scientific and Technological Advice on its 11 session. Bonn, 25 October 5 November 1999. Document FCCC/SBSTA/1999/14.
th

UNFCCC (1999) Report of the Conference of the Parties on its fifth session held at Bonn from 25 October to 5 November 1999. Decision 18/CP.5. Documents FCCC/CP/1999/6 and /6/Add.1. UNFCCC (2001) Preparations for the first session of the Conference of the Parties serving as the meeting of the Parties to the Kyoto Protocol (Decision 8/CP.4). Work programme on the mechanisms (decisions 7/CP.4 and 14/CP.5). Report by the Co-chairmen of the negotiating group. FCCC/CP/2001/CRP.2. UNFCCC (2001) Review of the implementation of commitments of other provisions of the Convention. Preparations for the first session of the Conference of the Parties serving as the Meeting to the Parties to the Kyoto Protocol (Decision 8/CP.4). Decision 5/CP.6. Implementation of the Buenos Aires Plan of Action. Implementation of the Buenos Aires plan of action. COP6, part II. Document FCCC/CP/ 2001/L.7. UNFCCC (2001) Reports on intersessional activities. Emissions resulting from fuel used for international transportation. Document FCCC/SBSTA/2001/INF.1 UNFCCC (2001) Negotiating texts on Articles 6, 12 and 17 of the Kyoto Protocol. The relevant negotiating texts, as of May 2001, can be found in document: FCCC/CP/2000/5/Add.3 (vol III). On the internet at http://www.unfccc.de/resource/docs/cop6/05a03v03.pdf US General Accounting Office (1998) Climate change: basic issues in considering a credit for early action program. Report to the ranking minority member, Committee on Government reform and oversight, House of Representatives. Van Velzen, A. and Wit, R. C. N. (2000) National allocation of international aviation and marine CO2 emissions. Study commissioned by the Dutch Civil Aviation Authority: Delft. Vis, P. (2001) Background paper on linking emissions trading schemes. International Emissions Trading Association workshop on the integration of national trading schemes. Vrolijk, C. (2001) Meeting Report: President Bush might have done Kyoto a favour, Royal Institute of International Affairs, London. Whitelegg, J. and N. Williams (2000) The Plane Truth: Aviation and the Environment. The Ashden Trust

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Whitelegg, J. (2000) Aviation: a briefing document. Published in association with Transport 2000; London. Wit, R.C.N. (1996) How to control greenhouse gas emissions from international aviation? Options for allocation. Centre for Energy Conservation and Environmental Technology (CE): Delft. World Health Organisation (2000) Climate Change and Human Health: Impact and Adaptation. WHO

Relevant websites Boeing, www.boeing.com GERT, Canada www.gert.org International Petroleum Exchange, www.ipe.uk.com IATA website (2001), www.iata.org North American Free Trade Agreement, see http://www.nafta-sec-alena.org/ UNFCCC climate change information kit: on website http://www.unfccc.int/resource/iuckit/fact03.html

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